Is Weakness In Encore Wire Corporation (NASDAQ:WIRE) Stock A Sign That The Market Could be Wrong Given Its Strong Financial Prospects?
Encore Wire (NASDAQ:WIRE) has had a rough month with its share price down 14%. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Particularly, we will be paying attention to Encore Wire'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. Put another way, it reveals the company's success at turning shareholder investments into profits.
See our latest analysis for Encore Wire
How Do You 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 Encore Wire is:
40% = US$541m ÷ US$1.3b (Based on the trailing twelve months to December 2021).
The 'return' is the income the business earned over the last year. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.40.
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. 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. 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.
Encore Wire's Earnings Growth And 40% ROE
First thing first, we like that Encore Wire has an impressive ROE. Secondly, even when compared to the industry average of 13% the company's ROE is quite impressive. So, the substantial 48% net income growth seen by Encore Wire over the past five years isn't overly surprising.
We then compared Encore Wire'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 8.6% in the same period.
Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. Is Encore Wire fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Encore Wire Making Efficient Use Of Its Profits?
Encore Wire's three-year median payout ratio to shareholders is 2.1%, which is quite low. This implies that the company is retaining 98% 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.
Besides, Encore Wire has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 0.8% over the next three years. However, Encore Wire's future ROE is expected to decline to 10% despite the expected decline in its payout ratio. We infer that there could be other factors that could be steering the foreseen decline in the company's ROE.
Summary
On the whole, we feel that Encore Wire's performance has been quite good. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. With that said, on studying the latest analyst forecasts, we found that while the company has seen growth in its past earnings, analysts expect its future earnings to shrink. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.
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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.
