DRDGOLD's's (NYSE:DRD) stock is up by a considerable 49% 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. In this article, we decided to focus on DRDGOLD's ROE.
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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
How Do You Calculate Return On Equity?
ROE can be calculated by using the formula:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for DRDGOLD is:
16% = SAR458m ÷ SAR2.9b (Based on the trailing twelve months to December 2019).
The 'return' is the profit over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.16 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. 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.
DRDGOLD's Earnings Growth And 16% ROE
To begin with, DRDGOLD seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 13%. This certainly adds some context to DRDGOLD's exceptional 30% net income growth seen over the past five years. However, there could also be other causes behind this growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.
We then performed a comparison between DRDGOLD's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 30% in the same period.
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. Doing so will help them establish if the stock's future looks promising or ominous. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if DRDGOLD is trading on a high P/E or a low P/E, relative to its industry.
Is DRDGOLD Efficiently Re-investing Its Profits?
The high three-year median payout ratio of 80% (implying that it keeps only 20% of profits) for DRDGOLD suggests that the company's growth wasn't really hampered despite it returning most of the earnings to its shareholders.
Moreover, DRDGOLD is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years.
In total, we are pretty happy with DRDGOLD's performance. 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. Until now, we have only just grazed the surface of the company's past performance by looking at the company's fundamentals. So it may be worth checking this free detailed graph of DRDGOLD's past earnings, as well as revenue and cash flows to get a deeper insight into the company's performance.
If you spot an error that warrants correction, please contact the editor at email@example.com. 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. Simply Wall St has no position in the stocks mentioned.
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