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Should Weakness in Alamos Gold Inc.'s (TSE:AGI) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

·4 min read

It is hard to get excited after looking at Alamos Gold's (TSE:AGI) recent performance, when its stock has declined 21% over the past three months. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. In this article, we decided to focus on Alamos Gold'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 Alamos Gold

How To 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 Alamos Gold is:

2.1% = US$55m ÷ US$2.7b (Based on the trailing twelve months to June 2020).

The 'return' is the amount earned after tax over the last twelve months. So, this means that for every CA$1 of its shareholder's investments, the company generates a profit of CA$0.02.

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

Alamos Gold's Earnings Growth And 2.1% ROE

It is quite clear that Alamos Gold's ROE is rather low. Even when compared to the industry average of 8.2%, the ROE figure is pretty disappointing. However, we we're pleasantly surprised to see that Alamos Gold grew its net income at a significant rate of 79% in the last five years. Therefore, there could be other reasons behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.

As a next step, we compared Alamos Gold'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 33%.

past-earnings-growth
past-earnings-growth

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. 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 Alamos Gold is trading on a high P/E or a low P/E, relative to its industry.

Is Alamos Gold Efficiently Re-investing Its Profits?

Alamos Gold's three-year median payout ratio to shareholders is 16%, which is quite low. This implies that the company is retaining 84% of its profits. So it looks like Alamos Gold is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Moreover, Alamos Gold is determined to keep sharing its profits with shareholders which we infer from its long history of five years of paying a dividend. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 23% over the next three years. However, Alamos Gold's future ROE is expected to rise to 16% despite the expected increase in the company's payout ratio. We infer that there could be other factors that could be driving the anticipated growth in the company's ROE.

Conclusion

In total, it does look like Alamos Gold has some positive aspects to its business. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. The latest industry analyst forecasts show that the company is expected to maintain its current growth rate. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.