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Leon's Furniture Limited's (TSE:LNF) Stock Been Rising: Are Strong Financials Guiding The Market?

Simply Wall St
·4 min read

Most readers would already know that Leon's Furniture's (TSE:LNF) stock increased by 9.9% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to Leon's Furniture's ROE today.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for Leon's Furniture

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

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So, based on the above formula, the ROE for Leon's Furniture is:

15% = CA$149m ÷ CA$999m (Based on the trailing twelve months to September 2020).

The 'return' is the profit over the last twelve months. So, this means that for every CA$1 of its shareholder's investments, the company generates a profit of CA$0.15.

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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Leon's Furniture's Earnings Growth And 15% ROE

To begin with, Leon's Furniture seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 12%. This probably laid the ground for Leon's Furniture's moderate 12% net income growth seen over the past five years.

As a next step, we compared Leon's Furniture'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 11% in the same period.

past-earnings-growth
past-earnings-growth

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Leon's Furniture's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Leon's Furniture Making Efficient Use Of Its Profits?

Leon's Furniture has a healthy combination of a moderate three-year median payout ratio of 36% (or a retention ratio of 64%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.

Besides, Leon's Furniture has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders.

Summary

In total, we are pretty happy with Leon's Furniture'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. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. To know the 3 risks we have identified for Leon's Furniture visit our risks dashboard for free.

This article by Simply Wall St is general in nature. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.