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Could The Market Be Wrong About CF Industries Holdings, Inc. (NYSE:CF) Given Its Attractive Financial Prospects?

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CF Industries Holdings (NYSE:CF) has had a rough three months with its share price down 16%. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Specifically, we decided to study CF Industries Holdings' 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for CF Industries Holdings

How Is ROE Calculated?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for CF Industries Holdings is:

32% = US$2.1b ÷ US$6.8b (Based on the trailing twelve months to March 2022).

The 'return' is the amount earned after tax over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.32 in profit.

What Has ROE Got To Do With 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 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.

A Side By Side comparison of CF Industries Holdings' Earnings Growth And 32% ROE

To begin with, CF Industries Holdings has a pretty high ROE which is interesting. Second, a comparison with the average ROE reported by the industry of 17% also doesn't go unnoticed by us. Under the circumstances, CF Industries Holdings' considerable five year net income growth of 37% was to be expected.

We then compared CF Industries Holdings' net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 8.2% in the same period.

past-earnings-growth
past-earnings-growth

Earnings growth is a huge factor in stock valuation. 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. Is CF fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is CF Industries Holdings Efficiently Re-investing Its Profits?

The high three-year median payout ratio of 60% (implying that it keeps only 40% of profits) for CF Industries Holdings suggests that the company's growth wasn't really hampered despite it returning most of the earnings to its shareholders.

Besides, CF Industries Holdings has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 22% over the next three years. As a result, the expected drop in CF Industries Holdings' payout ratio explains the anticipated rise in the company's future ROE to 39%, over the same period.

Conclusion

On the whole, we feel that CF Industries Holdings' performance has been quite good. In particular, its high ROE is quite noteworthy and also the probable explanation behind its considerable earnings growth. 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. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink in the future. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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

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.