Ridley (ASX:RIC) has had a great run on the share market with its stock up by a significant 17% over the last three months. Since the market usually pay for a company’s long-term fundamentals, we decided to study the company’s key performance indicators to see if they could be influencing the market. Particularly, we will be paying attention to Ridley’s ROE today.
Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
How To Calculate Return On Equity?
Return on equity can be calculated by using the formula:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders’ Equity
So, based on the above formula, the ROE for Ridley is:
13% = AU$42m ÷ AU$315m (Based on the trailing twelve months to June 2023).
The ‘return’ refers to a company’s earnings over the last year. That means that for every A$1 worth of shareholders’ equity, the company generated A$0.13 in profit.
Why Is ROE Important For Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Depending on how much of these profits the company reinvests or “retains”, and how effectively it does so, we are then able to assess a company’s earnings growth potential. Assuming all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don’t have the same features.
Ridley’s Earnings Growth And 13% ROE
At first glance, Ridley seems to have a decent ROE. Especially when compared to the industry average of 5.3% the company’s ROE looks pretty impressive. This certainly adds some context to Ridley’s exceptional 28% net income growth seen over the past five years. We reckon that there could also be other factors at play here. Such as – high earnings retention or an efficient management in place.
As a next step, we compared Ridley’s net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 11%.
Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. What is RIC worth today? The intrinsic value infographic in our free research report helps visualize whether RIC is currently mispriced by the market.
Is Ridley Efficiently Re-investing Its Profits?
Ridley has a three-year median payout ratio of 46% (where it is retaining 54% of its income) which is not too low or not too high. By the looks of it, the dividend is well covered and Ridley is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.
Additionally, Ridley has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Looking at the current analyst consensus data, we can see that the company’s future payout ratio is expected to rise to 60% over the next three years. However, the company’s ROE is not expected to change by much despite the higher expected payout ratio.
In total, we are pretty happy with Ridley’s performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. Having said that, the company’s earnings growth is expected to slow down, as forecasted in the current analyst estimates. To know more about the company’s future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.
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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.