Stock Analysis

# Allkem Limited's (ASX:AKE) Stock On An Uptrend: Could Fundamentals Be Driving The Momentum?

•  Updated

Allkem (ASX:AKE) has had a great run on the share market with its stock up by a significant 35% over the last three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. In this article, we decided to focus on Allkem's ROE.

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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Allkem

## How Do You 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 Allkem is:

11% = US\$337m ÷ US\$3.1b (Based on the trailing twelve months to June 2022).

The 'return' refers to a company's earnings over the last year. That means that for every A\$1 worth of shareholders' equity, the company generated A\$0.11 in profit.

## What Has ROE Got To Do With Earnings Growth?

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

## A Side By Side comparison of Allkem's Earnings Growth And 11% ROE

At first glance, Allkem seems to have a decent ROE. Be that as it may, the company's ROE is still quite lower than the industry average of 17%. That being the case, the significant five-year 23% net income growth reported by Allkem comes as a pleasant surprise. Therefore, there could be other causes behind this growth. For instance, the company has a low payout ratio or is being managed efficiently. However, not to forget, the company does have a decent ROE to begin with, just that it is lower than the industry average. So this certainly also provides some context to the high earnings growth seen by the company.

Next, on comparing with the industry net income growth, we found that Allkem's reported growth was lower than the industry growth of 31% in the same period, which is not something we like to see.

Earnings growth is a huge factor in stock valuation. 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. If you're wondering about Allkem's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

## Is Allkem Making Efficient Use Of Its Profits?

Given that Allkem doesn't pay any dividend to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.

## Conclusion

In total, it does look like Allkem has some positive aspects to its business. In particular, it's great to see that the company is investing heavily into its business and along with a moderate rate of return, that has resulted in a respectable growth in its earnings. We also studied the latest analyst forecasts and found that the company's earnings growth is expected be similar to its current growth rate. 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.

### Valuation is complex, but we're helping make it simple.

Find out whether Allkem is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.

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#### Allkem

Allkem Limited engages in the production and sale of lithium and boron in Argentina.

The Snowflake is a visual investment summary with the score of each axis being calculated by 6 checks in 5 areas.

Analysis AreaScore (0-6)
Valuation4
Future Growth4
Past Performance3
Financial Health4
Dividends0

Read more about these checks in the individual report sections or in our analysis model.

Good value with reasonable growth potential.