Are Acuity Brands, Inc.'s (NYSE:AYI) Fundamentals Good Enough to Warrant Buying Given The Stock's Recent Weakness?
Acuity Brands (NYSE:AYI) has had a rough three months with its share price down 16%. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Specifically, we decided to study Acuity Brands' ROE in this article.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
See our latest analysis for Acuity Brands
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 Acuity Brands is:
19% = US$379m ÷ US$1.9b (Based on the trailing twelve months to February 2023).
The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.19 in profit.
What Has ROE Got To Do With Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
Acuity Brands' Earnings Growth And 19% ROE
To start with, Acuity Brands' ROE looks acceptable. On comparing with the average industry ROE of 15% the company's ROE looks pretty remarkable. Given the circumstances, we can't help but wonder why Acuity Brands saw little to no growth in the past five years. We reckon that there could be some other factors at play here that's limiting the company's growth. These include low earnings retention or poor allocation of capital.
We then compared Acuity Brands' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 10% in the same period, which is a bit concerning.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for AYI? You can find out in our latest intrinsic value infographic research report.
Is Acuity Brands Making Efficient Use Of Its Profits?
Acuity Brands' low three-year median payout ratio of 6.2% (implying that the company keeps94% of its income) should mean that the company is retaining most of its earnings to fuel its growth and this should be reflected in its growth number, but that's not the case.
In addition, Acuity Brands has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 3.8% over the next three years. However, the company's ROE is not expected to change by much despite the lower expected payout ratio.
Conclusion
On the whole, we do feel that Acuity Brands has some positive attributes. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its growth. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.
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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.
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