Want to participate in a short research study? Help shape the future of investing tools and earn a $40 gift card!
Primero Group's (ASX:PGX) stock is up by a considerable 61% 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 Primero Group'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 Primero Group is:
12% = AU$5.4m ÷ AU$44m (Based on the trailing twelve months to December 2019).
The 'return' refers to a company's earnings over the last year. So, this means that for every A$1 of its shareholder's investments, the company generates a profit of A$0.12.
What Is The Relationship Between ROE And 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 Primero Group's Earnings Growth And 12% ROE
At first glance, Primero Group seems to have a decent ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 11%. This probably goes some way in explaining Primero Group's significant 42% net income growth over the past five years amongst other factors. We reckon that there could also be other factors at play here. 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 Primero Group's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 37% 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. This then helps them determine if the stock is placed for a bright or bleak future. Is Primero Group fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Primero Group Using Its Retained Earnings Effectively?
Primero Group has a really low three-year median payout ratio of 25%, meaning that it has the remaining 75% left over to reinvest into its business. So it looks like Primero Group is reinvesting profits heavily to grow its business, which shows in its earnings growth.
Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 40% over the next three years. Regardless, the future ROE for Primero Group is speculated to rise to 24% despite the anticipated increase in the payout ratio. There could probably be other factors that could be driving the future growth in the ROE.
In total, we are pretty happy with Primero Group's performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink in the future. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.
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. 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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email email@example.com.