Is Otter Tail Corporation's (NASDAQ:OTTR) Recent Stock Performance Tethered To Its Strong Fundamentals?
Most readers would already be aware that Otter Tail's (NASDAQ:OTTR) stock increased significantly by 12% over the past month. 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 Otter Tail's 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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
View our latest analysis for Otter Tail
How To Calculate Return On Equity?
Return on equity 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 Otter Tail is:
23% = US$262m ÷ US$1.1b (Based on the trailing twelve months to June 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 $0.23 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. 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.
A Side By Side comparison of Otter Tail's Earnings Growth And 23% ROE
To begin with, Otter Tail has a pretty high ROE which is interesting. Additionally, the company's ROE is higher compared to the industry average of 9.2% which is quite remarkable. So, the substantial 24% net income growth seen by Otter Tail over the past five years isn't overly surprising.
Next, on comparing with the industry net income growth, we found that Otter Tail's growth is quite high when compared to the industry average growth of 6.9% in the same period, which is great to see.
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. This then helps them determine if the stock is placed for a bright or bleak future. Has the market priced in the future outlook for OTTR? You can find out in our latest intrinsic value infographic research report.
Is Otter Tail Efficiently Re-investing Its Profits?
Otter Tail has a significant three-year median payout ratio of 60%, meaning the company only retains 40% of its income. This implies that the company has been able to achieve high earnings growth despite returning most of its profits to shareholders.
Moreover, Otter Tail 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. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 51%. Accordingly, forecasts suggest that Otter Tail's future ROE will be 21% which is again, similar to the current ROE.
Summary
On the whole, we feel that Otter Tail's performance has been quite good. Especially the high ROE, Which has contributed to the impressive growth seen in earnings. Despite the company reinvesting only a small portion of its profits, it still has managed to grow its earnings so that is appreciable. With that said, on studying the latest analyst forecasts, we found that while the company has seen growth in its past earnings, analysts expect its future earnings to shrink. 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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