Will Weakness in Reliance Worldwide Corporation Limited's (ASX:RWC) Stock Prove Temporary Given Strong Fundamentals?
Reliance Worldwide (ASX:RWC) has had a rough month with its share price down 4.2%. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Specifically, we decided to study Reliance Worldwide's ROE in this article.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.
Check out our latest analysis for Reliance Worldwide
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 Reliance Worldwide is:
12% = US$140m ÷ US$1.2b (Based on the trailing twelve months to December 2022).
The 'return' is the profit over the last twelve months. That means that for every A$1 worth of shareholders' equity, the company generated A$0.12 in profit.
What Is The Relationship Between ROE And Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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.
Reliance Worldwide's Earnings Growth And 12% ROE
To start with, Reliance Worldwide's ROE looks acceptable. Further, the company's ROE is similar to the industry average of 11%. This probably goes some way in explaining Reliance Worldwide's significant 22% net income growth over the past five years amongst other factors. We reckon that there could also be other factors at play here. For instance, the company has a low payout ratio or is being managed efficiently.
As a next step, we compared Reliance Worldwide'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 14%.
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. If you're wondering about Reliance Worldwide's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Reliance Worldwide Efficiently Re-investing Its Profits?
Reliance Worldwide's significant three-year median payout ratio of 76% (where it is retaining only 24% of its income) suggests that the company has been able to achieve a high growth in earnings despite returning most of its income to shareholders.
Besides, Reliance Worldwide has been paying dividends over a period of six years. 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 51% over the next three years. However, the company's ROE is not expected to change by much despite the lower expected payout ratio.
Conclusion
Overall, we are quite pleased with Reliance Worldwide's performance. In particular, its high ROE is quite noteworthy and also the probable explanation behind its considerable earnings growth. Yet, the company is retaining a small portion of its profits. Which means that the company has been able to grow its earnings in spite of it, so that's not too bad. 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 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.
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