Acrow Formwork and Construction Services Limited's (ASX:ACF) Stock Has Shown Weakness Lately But Financial Prospects Look Decent: Is The Market Wrong?

Acrow Formwork and Construction Services (ASX:ACF) has had a rough three months with its share price down 13%. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. In this article, we decided to focus on Acrow Formwork and Construction Services' ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Acrow Formwork and Construction Services

How To Calculate Return On Equity?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Acrow Formwork and Construction Services is:

6.4% = AU$4.0m ÷ AU$61m (Based on the trailing twelve months to June 2021).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each A$1 of shareholders' capital it has, the company made A$0.06 in profit.

What Is The Relationship Between ROE And Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.

Acrow Formwork and Construction Services' Earnings Growth And 6.4% ROE

On the face of it, Acrow Formwork and Construction Services' ROE is not much to talk about. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 8.2%. Despite this, surprisingly, Acrow Formwork and Construction Services saw an exceptional 24% net income growth over the past five years. So, there might be other aspects that are positively influencing the company's earnings growth. Such as - high earnings retention or an efficient management in place.

We then performed a comparison between Acrow Formwork and Construction Services' net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 27% in the same period.

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. Has the market priced in the future outlook for ACF? You can find out in our latest intrinsic value infographic research report.

Is Acrow Formwork and Construction Services Using Its Retained Earnings Effectively?

Acrow Formwork and Construction Services' significant three-year median payout ratio of 70% (where it is retaining only 30% 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, Acrow Formwork and Construction Services has been paying dividends over a period of three years. This shows that the company is committed to sharing profits with its shareholders. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 44% over the next three years. The fact that the company's ROE is expected to rise to 17% over the same period is explained by the drop in the payout ratio.

Summary

Overall, we feel that Acrow Formwork and Construction Services certainly does have some positive factors to consider. Namely, its high earnings growth. We do however feel that the earnings growth number could have been even higher, had the company been reinvesting more of its earnings and paid out less dividends. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.