Should Weakness in Hormel Foods Corporation's (NYSE:HRL) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?
Hormel Foods (NYSE:HRL) has had a rough month with its share price down 9.0%. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on Hormel Foods' 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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
Check out our latest analysis for Hormel Foods
How Is ROE Calculated?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Hormel Foods is:
13% = US$926m ÷ US$7.1b (Based on the trailing twelve months to January 2022).
The 'return' is the yearly profit. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.13.
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. 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.
Hormel Foods' Earnings Growth And 13% ROE
To start with, Hormel Foods' ROE looks acceptable. Even when compared to the industry average of 11% the company's ROE looks quite decent. Given the circumstances, we can't help but wonder why Hormel Foods saw little to no growth in the past five years. We reckon that there could be some other factors at play here that's limiting the company's growth. These include low earnings retention or poor allocation of capital.
Next, on comparing with the industry net income growth, we found that Hormel Foods' reported growth was lower than the industry growth of 4.7% in the same period, which is not something we like to see.
Earnings growth is an important metric to consider when valuing a stock. 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. What is HRL worth today? The intrinsic value infographic in our free research report helps visualize whether HRL is currently mispriced by the market.
Is Hormel Foods Efficiently Re-investing Its Profits?
With a high three-year median payout ratio of 54% (implying that the company keeps only 46% of its income) of its business to reinvest into its business), most of Hormel Foods' profits are being paid to shareholders, which explains the absence of growth in earnings.
In addition, Hormel Foods has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 51%.
Summary
Overall, we feel that Hormel Foods certainly does have some positive factors to consider. However, while the company does have a high ROE, its earnings growth number is quite disappointing. This can be blamed on the fact that it reinvests only a small portion of its profits and pays out the rest as dividends. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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.
