With its stock down 3.3% over the past month, it is easy to disregard Hormel Foods (NYSE:HRL). But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Particularly, we will be paying attention to Hormel Foods’ ROE today.
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.
How To 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 Hormel Foods is:
15% = US$929m ÷ US$6.3b (Based on the trailing twelve months to July 2020).
The ‘return’ refers to a company’s earnings over the last year. So, this means that for every $1 of its shareholder’s investments, the company generates a profit of $0.15.
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 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.
Hormel Foods’ Earnings Growth And 15% ROE
At first glance, Hormel Foods seems to have a decent ROE. Especially when compared to the industry average of 10% the company’s ROE looks pretty impressive. Probably as a result of this, Hormel Foods was able to see a decent growth of 6.0% over the last five years.
Next, on comparing with the industry net income growth, we found that Hormel Foods’ growth is quite high when compared to the industry average growth of 1.0% 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). Doing so will help them establish if the stock’s future looks promising or ominous. Is Hormel Foods fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Hormel Foods Using Its Retained Earnings Effectively?
Hormel Foods has a healthy combination of a moderate three-year median payout ratio of 43% (or a retention ratio of 57%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.
Additionally, Hormel Foods 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. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 58% over the next three years. Despite the higher expected payout ratio, the company’s ROE is not expected to change by much.
In total, we are pretty happy with Hormel Foods’ 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. On studying current analyst estimates, we found that analysts expect the company to continue its recent growth streak. 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. 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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