Pason Systems Inc.'s (TSE:PSI) Stock Been Rising: Are Strong Financials Guiding The Market?
Most readers would already know that Pason Systems' (TSE:PSI) stock increased by 4.2% over the past three months. Since the market usually pay for a company’s long-term financial health, we decided to study the company’s fundamentals to see if they could be influencing the market. In this article, we decided to focus on Pason Systems' 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. Put another way, it reveals the company's success at turning shareholder investments into profits.
See our latest analysis for Pason Systems
How To Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Pason Systems is:
30% = CA$124m ÷ CA$408m (Based on the trailing twelve months to September 2023).
The 'return' is the income the business earned over the last year. That means that for every CA$1 worth of shareholders' equity, the company generated CA$0.30 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. 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. 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.
Pason Systems' Earnings Growth And 30% ROE
First thing first, we like that Pason Systems has an impressive ROE. Second, a comparison with the average ROE reported by the industry of 19% also doesn't go unnoticed by us. This likely paved the way for the modest 19% net income growth seen by Pason Systems over the past five years.
We then compared Pason Systems' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 32% in the same 5-year period, which is a bit concerning.
Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. 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 Pason Systems is trading on a high P/E or a low P/E, relative to its industry.
Is Pason Systems Using Its Retained Earnings Effectively?
Pason Systems has a healthy combination of a moderate three-year median payout ratio of 35% (or a retention ratio of 65%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.
Moreover, Pason Systems 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 34%. However, Pason Systems' future ROE is expected to decline to 24% despite there being not much change anticipated in the company's payout ratio.
Summary
On the whole, we feel that Pason Systems' performance has been quite good. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see a good amount of growth in its earnings. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Remember, the price of a stock is also dependent on the perceived risk. Therefore investors must keep themselves informed about the risks involved before investing in any company. Our risks dashboard would have the 3 risks we have identified for Pason Systems.
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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.
