Ricegrowers Limited's (ASX:SGLLV) Has Been On A Rise But Financial Prospects Look Weak: Is The Stock Overpriced?

Ricegrowers' (ASX:SGLLV) stock is up by a considerable 25% over the past three months. However, in this article, we decided to focus on its weak fundamentals, as long-term financial performance of a business is what ultimatley dictates market outcomes. Particularly, we will be paying attention to Ricegrowers' ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Ricegrowers

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 Ricegrowers is:

4.8% = AU$22m ÷ AU$468m (Based on the trailing twelve months to October 2020).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each A$1 of shareholders' capital it has, the company made A$0.05 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. 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.

Ricegrowers' Earnings Growth And 4.8% ROE

When you first look at it, Ricegrowers' ROE doesn't look that attractive. However, its ROE is similar to the industry average of 4.8%, so we won't completely dismiss the company. But then again, Ricegrowers' five year net income shrunk at a rate of 12%. Bear in mind, the company does have a slightly low ROE. So that's what might be causing earnings growth to shrink.

Next, when we compared with the industry, which has shrunk its earnings at a rate of 1.3% in the same period, we still found Ricegrowers' performance to be quite bleak, because the company has been shrinking its earnings faster than the industry.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. What is SGLLV worth today? The intrinsic value infographic in our free research report helps visualize whether SGLLV is currently mispriced by the market.

Is Ricegrowers Efficiently Re-investing Its Profits?

Ricegrowers has a high three-year median payout ratio of 59% (that is, it is retaining 41% of its profits). This suggests that the company is paying most of its profits as dividends to its shareholders. This goes some way in explaining why its earnings have been shrinking. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent.

Moreover, Ricegrowers has been paying dividends for five years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer consistent dividends even though earnings have been shrinking. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 58% of its profits over the next three years. However, Ricegrowers' ROE is predicted to rise to 6.9% despite there being no anticipated change in its payout ratio.

Summary

Overall, we would be extremely cautious before making any decision on Ricegrowers. As a result of its low ROE and lack of mich reinvestment into the business, the company has seen a disappointing earnings growth rate. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. 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. 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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