Constellation Brands, Inc.'s (NYSE:STZ) Stock Is Rallying But Financials Look Ambiguous: Will The Momentum Continue?
Most readers would already be aware that Constellation Brands' (NYSE:STZ) stock increased significantly by 19% over the past three months. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. In this article, we decided to focus on Constellation Brands' 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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
Check out our latest analysis for Constellation Brands
How To Calculate Return On Equity?
The formula for return on equity is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Constellation Brands is:
9.4% = US$1.1b ÷ US$12b (Based on the trailing twelve months to August 2020).
The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.09 in profit.
Why Is ROE Important For Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.
Constellation Brands' Earnings Growth And 9.4% ROE
When you first look at it, Constellation Brands' ROE doesn't look that attractive. Next, when compared to the average industry ROE of 18%, the company's ROE leaves us feeling even less enthusiastic. Therefore, Constellation Brands' flat earnings over the past five years can possibly be explained by the low ROE amongst other factors.
We then compared Constellation Brands' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 7.5% 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. This then helps them determine if the stock is placed for a bright or bleak future. What is STZ worth today? The intrinsic value infographic in our free research report helps visualize whether STZ is currently mispriced by the market.
Is Constellation Brands Making Efficient Use Of Its Profits?
Constellation Brands has a low three-year median payout ratio of 21% (or a retention ratio of 79%) but the negligible earnings growth number doesn't reflect this as high growth usually follows high profit retention.
In addition, Constellation Brands has been paying dividends over a period of six 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 rise to 27% over the next three years. Regardless, the future ROE for Constellation Brands is speculated to rise to 16% despite the anticipated increase in the payout ratio. There could probably be other factors that could be driving the future growth in the ROE.
Conclusion
On the whole, we feel that the performance shown by Constellation Brands can be open to many interpretations. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.
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.
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