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Most readers would already be aware that TopBuild's (NYSE:BLD) stock increased significantly by 68% 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. Particularly, we will be paying attention to TopBuild's ROE today.
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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
How Do You 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 TopBuild is:
17% = US$204m ÷ US$1.2b (Based on the trailing twelve months to March 2020).
The 'return' is the yearly profit. That means that for every $1 worth of shareholders' equity, the company generated $0.17 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. 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.
TopBuild's Earnings Growth And 17% ROE
At first glance, TopBuild seems to have a decent ROE. Especially when compared to the industry average of 13% the company's ROE looks pretty impressive. This probably laid the ground for TopBuild's significant 30% net income growth seen over the past five years. We believe that there might also be other aspects that are positively influencing the company's earnings growth. Such as - high earnings retention or an efficient management in place.
We then compared TopBuild'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 16% in the same period.
Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 TopBuild is trading on a high P/E or a low P/E, relative to its industry.
Is TopBuild Efficiently Re-investing Its Profits?
Given that TopBuild doesn't pay any dividend to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.
Overall, we are quite pleased with TopBuild'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. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.
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.
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