Are Strong Financial Prospects The Force That Is Driving The Momentum In FirstService Corporation's TSE:FSV) Stock?
FirstService's (TSE:FSV) stock is up by a considerable 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 FirstService's ROE.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
See our latest analysis for FirstService
How To Calculate Return On Equity?
The formula for return on equity is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for FirstService is:
13% = US$168m ÷ US$1.3b (Based on the trailing twelve months to September 2023).
The 'return' refers to a company's earnings over the last year. So, this means that for every CA$1 of its shareholder's investments, the company generates a profit of CA$0.13.
What Is The Relationship Between ROE And Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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 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.
FirstService's Earnings Growth And 13% ROE
At first glance, FirstService seems to have a decent ROE. Further, the company's ROE compares quite favorably to the industry average of 7.1%. Probably as a result of this, FirstService was able to see an impressive net income growth of 40% over the last 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.
As a next step, we compared FirstService's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 20%.
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. Is FirstService fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is FirstService Making Efficient Use Of Its Profits?
The three-year median payout ratio for FirstService is 28%, which is moderately low. The company is retaining the remaining 72%. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like FirstService is reinvesting its earnings efficiently.
Moreover, FirstService is determined to keep sharing its profits with shareholders which we infer from its long history of eight years of paying a dividend. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 18% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 20%, over the same period.
Summary
On the whole, we feel that FirstService's 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 substantial growth in its earnings. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.
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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.
