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Will Weakness in CSW Industrials, Inc.'s (NASDAQ:CSWI) Stock Prove Temporary Given Strong Fundamentals?

Simply Wall St

CSW Industrials (NASDAQ:CSWI) has had a rough month with its share price down 11%. However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. In this article, we decided to focus on CSW Industrials' 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.

View our latest analysis for CSW Industrials

How Is ROE Calculated?

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 CSW Industrials is:

16% = US$45m ÷ US$277m (Based on the trailing twelve months to March 2020).

The 'return' is the profit over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.16 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learnt that ROE measures how efficiently a company is generating its profits. 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.

CSW Industrials' Earnings Growth And 16% ROE

To begin with, CSW Industrials seems to have a respectable ROE. Even when compared to the industry average of 15% the company's ROE looks quite decent. Consequently, this likely laid the ground for the decent growth of 15% seen over the past five years by CSW Industrials.

As a next step, we compared CSW Industrials' net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 13% in the same period.

NasdaqGS:CSWI Past Earnings Growth July 6th 2020
NasdaqGS:CSWI Past Earnings Growth July 6th 2020

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). 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 CSW Industrials is trading on a high P/E or a low P/E, relative to its industry.

Is CSW Industrials Using Its Retained Earnings Effectively?

CSW Industrials' three-year median payout ratio to shareholders is 11% (implying that it retains 89% of its income), which is on the lower side, so it seems like the management is reinvesting profits heavily to grow its business.

While CSW Industrials has been growing its earnings, it only recently started to pay dividends which likely means that the company decided to impress new and existing shareholders with a dividend.

Conclusion

On the whole, we feel that CSW Industrials' performance has been quite good. 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. 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. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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 editorial-team@simplywallst.com.