Does The Market Have A Low Tolerance For UniFirst Corporation's (NYSE:UNF) Mixed Fundamentals?
UniFirst (NYSE:UNF) has had a rough month with its share price down 2.4%. We, however decided to study the company's financials to determine if they have got anything to do with the price decline. Long-term fundamentals are usually what drive market outcomes, so it's worth paying close attention. Specifically, we decided to study UniFirst's ROE in this article.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
See our latest analysis for UniFirst
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 UniFirst is:
5.3% = US$104m ÷ US$1.9b (Based on the trailing twelve months to November 2022).
The 'return' is the yearly profit. That means that for every $1 worth of shareholders' equity, the company generated $0.05 in profit.
Why Is ROE Important For Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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 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.
UniFirst's Earnings Growth And 5.3% ROE
At first glance, UniFirst's ROE doesn't look very promising. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 13% either. Therefore, it might not be wrong to say that the five year net income decline of 2.7% seen by UniFirst was probably the result of it having a lower ROE. We reckon that there could also be other factors at play here. For instance, the company has a very high payout ratio, or is faced with competitive pressures.
That being said, we compared UniFirst's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 6.7% in the same period.
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 UNF fairly valued? This infographic on the company's intrinsic value has everything you need to know.
Is UniFirst Making Efficient Use Of Its Profits?
UniFirst's low three-year median payout ratio of 14% (implying that it retains the remaining 86% of its profits) comes as a surprise when you pair it with the shrinking earnings. This typically shouldn't be the case when a company is retaining most of its earnings. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.
Additionally, UniFirst has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.
Summary
Overall, we have mixed feelings about UniFirst. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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.
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