West African Resources Limited's (ASX:WAF) Stock Has Been Sliding But Fundamentals Look Strong: Is The Market Wrong?
West African Resources (ASX:WAF) has had a rough three months with its share price down 14%. 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. Specifically, we decided to study West African Resources' ROE in this article.
Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
See our latest analysis for West African Resources
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 West African Resources is:
25% = AU$184m ÷ AU$741m (Based on the trailing twelve months to December 2022).
The 'return' is the yearly profit. So, this means that for every A$1 of its shareholder's investments, the company generates a profit of A$0.25.
Why Is ROE Important For Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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.
West African Resources' Earnings Growth And 25% ROE
To begin with, West African Resources has a pretty high ROE which is interesting. Additionally, the company's ROE is higher compared to the industry average of 17% which is quite remarkable. As a result, West African Resources' exceptional 59% net income growth seen over the past five years, doesn't come as a surprise.
Next, on comparing with the industry net income growth, we found that West African Resources' growth is quite high when compared to the industry average growth of 29% in the same period, which is great to see.
Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about West African Resources''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is West African Resources Using Its Retained Earnings Effectively?
West African Resources doesn't pay any dividend to its shareholders, meaning that the company has been reinvesting all of its profits into the business. This is likely what's driving the high earnings growth number discussed above.
Summary
On the whole, we feel that West African Resources' 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. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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.
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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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