Tredegar’s (NYSE:TG) stock up by 8.5% over the past three months. Given that stock prices are usually aligned with a company’s financial performance in the long-term, we decided to investigate if the company’s decent financials had a hand to play in the recent price move. Specifically, we decided to study Tredegar’s ROE in this article.
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.
How Do You Calculate Return On Equity?
Return on equity 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 Tredegar is:
1.8% = US$6.2m ÷ US$339m (Based on the trailing twelve months to March 2020).
The ‘return’ is the income the business earned over the last year. One way to conceptualize this is that for each $1 of shareholders’ capital it has, the company made $0.02 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. 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.
Tredegar’s Earnings Growth And 1.8% ROE
It is hard to argue that Tredegar’s ROE is much good in and of itself. Even compared to the average industry ROE of 12%, the company’s ROE is quite dismal. However, we we’re pleasantly surprised to see that Tredegar grew its net income at a significant rate of 23% in the last five years. We reckon that there could be other factors at play here. Such as – high earnings retention or an efficient management in place.
As a next step, we compared Tredegar’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 11%.
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 Tredegar’s’s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Tredegar Making Efficient Use Of Its Profits?
The three-year median payout ratio for Tredegar is 38%, which is moderately low. The company is retaining the remaining 62%. By the looks of it, the dividend is well covered and Tredegar is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.
Additionally, Tredegar has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders.
Overall, we feel that Tredegar certainly does have some positive factors to consider. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. While we won’t completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. Our risks dashboard would have the 3 risks we have identified for Tredegar.
If you’re looking to trade Tredegar, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account.
This article by Simply Wall St is general in nature. 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.
*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email firstname.lastname@example.org.