Williams-Sonoma, Inc.'s (NYSE:WSM) Stock Has Been Sliding But Fundamentals Look Strong: Is The Market Wrong?
Williams-Sonoma (NYSE:WSM) has had a rough month with its share price down 20%. 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 Williams-Sonoma'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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
See our latest analysis for Williams-Sonoma
How Do You Calculate Return On Equity?
ROE can be calculated by using the formula:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Williams-Sonoma is:
68% = US$1.1b ÷ US$1.7b (Based on the trailing twelve months to January 2022).
The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.68 in profit.
Why Is ROE Important For Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
Williams-Sonoma's Earnings Growth And 68% ROE
Firstly, we acknowledge that Williams-Sonoma has a significantly high ROE. Additionally, the company's ROE is higher compared to the industry average of 33% which is quite remarkable. As a result, Williams-Sonoma's exceptional 31% net income growth seen over the past five years, doesn't come as a surprise.
As a next step, we compared Williams-Sonoma'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 25%.
Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Williams-Sonoma's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Williams-Sonoma Efficiently Re-investing Its Profits?
Williams-Sonoma's three-year median payout ratio is a pretty moderate 36%, meaning the company retains 64% of its income. By the looks of it, the dividend is well covered and Williams-Sonoma is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.
Moreover, Williams-Sonoma is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 20% over the next three years. Still forecasts suggest that Williams-Sonoma's future ROE will drop to 39% even though the the company's payout ratio is expected to decrease. This suggests that there could be other factors could driving the anticipated decline in the company's ROE.
Conclusion
In total, we are pretty happy with Williams-Sonoma's performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.
