Is Alliance Aviation Services Limited's(ASX:AQZ) Recent Stock Performance Tethered To Its Strong Fundamentals?

Most readers would already be aware that Alliance Aviation Services' (ASX:AQZ) stock increased significantly by 163% over the past three months. Since the market usually pay for a company’s long-term fundamentals, we decided to study the company’s key performance indicators to see if they could be influencing the market. Specifically, we decided to study Alliance Aviation Services' ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for Alliance Aviation Services

How Is ROE Calculated?

The formula for ROE is:

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

So, based on the above formula, the ROE for Alliance Aviation Services is:

14% = AU$24m ÷ AU$173m (Based on the trailing twelve months to December 2019).

The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every A$1 worth of equity, the company was able to earn A$0.14 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learnt 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.

Alliance Aviation Services' Earnings Growth And 14% ROE

To begin with, Alliance Aviation Services seems to have a respectable ROE. Further, the company's ROE is similar to the industry average of 12%. This probably goes some way in explaining Alliance Aviation Services' significant 53% net income growth over the past five years amongst other factors. However, there could also be other drivers behind this growth. Such as - high earnings retention or an efficient management in place.

As a next step, we compared Alliance Aviation Services' 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 7.8%.

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). This then helps them determine if the stock is placed for a bright or bleak future. Is Alliance Aviation Services fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Alliance Aviation Services Using Its Retained Earnings Effectively?

Alliance Aviation Services' significant three-year median payout ratio of 60% (where it is retaining only 40% 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.

Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 71%. Still, forecasts suggest that Alliance Aviation Services' future ROE will drop to 11% even though the the company's payout ratio is not expected to change by much.

Summary

On the whole, we feel that Alliance Aviation Services' performance has been quite good. In particular, its high ROE is quite noteworthy and also the probable explanation behind its considerable earnings growth. Yet, the company is retaining a small portion of its profits. Which means that the company has been able to grow its earnings in spite of it, so that's not too bad. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. 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.

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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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