Are Strong Financial Prospects The Force That Is Driving The Momentum In GrainCorp Limited's ASX:GNC) Stock?
Most readers would already be aware that GrainCorp's (ASX:GNC) stock increased significantly by 15% over the past month. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. In this article, we decided to focus on GrainCorp'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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.
See our latest analysis for GrainCorp
How Is ROE Calculated?
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 GrainCorp is:
16% = AU$250m ÷ AU$1.6b (Based on the trailing twelve months to September 2023).
The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each A$1 of shareholders' capital it has, the company made A$0.16 in profit.
What Is The Relationship Between ROE And 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.
GrainCorp's Earnings Growth And 16% ROE
To begin with, GrainCorp seems to have a respectable ROE. Even so, when compared with the average industry ROE of 24%, we aren't very excited. That being the case, the significant five-year 56% net income growth reported by GrainCorp comes as a pleasant surprise. We reckon that there could be other factors at play here. Such as - high earnings retention or an efficient management in place. Bear in mind, the company does have a respectable ROE. It is just that the industry ROE is higher. So this certainly also provides some context to the high earnings growth seen by the company.
We then compared GrainCorp's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 19% in the same 5-year period.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. What is GNC worth today? The intrinsic value infographic in our free research report helps visualize whether GNC is currently mispriced by the market.
Is GrainCorp Making Efficient Use Of Its Profits?
GrainCorp's ' three-year median payout ratio is on the lower side at 20% implying that it is retaining a higher percentage (80%) of its profits. So it seems like the management is reinvesting profits heavily to grow its business and this reflects in its earnings growth number.
Moreover, GrainCorp 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. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 56% over the next three years. Consequently, the higher expected payout ratio explains the decline in the company's expected ROE (to 6.1%) over the same period.
Summary
On the whole, we feel that GrainCorp's performance has been quite good. In particular, it's great to see that the company has seen significant growth in its earnings backed by a respectable ROE and a high reinvestment rate. Having said that, on studying current analyst estimates, we were concerned to see that while the company has grown its earnings in the past, analysts expect its earnings to shrink in the future. 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.
