It is hard to get excited after looking at Finning International's (TSE:FTT) recent performance, when its stock has declined 7.9% over the past month. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. In this article, we decided to focus on Finning International's ROE.
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. Put another way, it reveals the company's success at turning shareholder investments into profits.
How To Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Finning International is:
14% = CA$332m ÷ CA$2.3b (Based on the trailing twelve months to September 2021).
The 'return' refers to a company's earnings over the last year. So, this means that for every CA$1 of its shareholder's investments, the company generates a profit of CA$0.14.
What Is The Relationship Between ROE And Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.
Finning International's Earnings Growth And 14% ROE
To start with, Finning International's ROE looks acceptable. Yet, the fact that the company's ROE is lower than the industry average of 22% does temper our expectations. However, we are pleased to see the impressive 24% net income growth reported by Finning International over the past five years. Therefore, there could be other causes behind this growth. For instance, the company has a low payout ratio or is being managed efficiently. However, not to forget, the company does have a decent ROE to begin with, just that it is lower than the industry average. So this certainly also provides some context to the high earnings growth seen by the company.
As a next step, we compared Finning International's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 21% in the same period.
Earnings growth is a huge factor in stock valuation. 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 FTT worth today? The intrinsic value infographic in our free research report helps visualize whether FTT is currently mispriced by the market.
Is Finning International Making Efficient Use Of Its Profits?
Finning International has a significant three-year median payout ratio of 55%, meaning the company only retains 45% of its income. This implies that the company has been able to achieve high earnings growth despite returning most of its profits to shareholders.
Moreover, Finning International is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years.
On the whole, we do feel that Finning International has some positive attributes. Specifically, its respectable ROE which likely led to the considerable growth in earnings. Yet, the company is retaining a small portion of its profits. Which means that the company has been able to grow its earnings in spite of it, so that's not too bad. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.