Are Aurizon Holdings Limited's (ASX:AZJ) Fundamentals Good Enough to Warrant Buying Given The Stock's Recent Weakness?

Aurizon Holdings (ASX:AZJ) has had a rough three months with its share price down 14%. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Particularly, we will be paying attention to Aurizon Holdings' ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Aurizon Holdings

How Do You 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 Aurizon Holdings is:

13% = AU$529m ÷ AU$4.1b (Based on the trailing twelve months to December 2020).

The 'return' is the yearly profit. That means that for every A$1 worth of shareholders' equity, the company generated A$0.13 in profit.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

Aurizon Holdings' Earnings Growth And 13% ROE

To begin with, Aurizon Holdings seems to have a respectable ROE. On comparing with the average industry ROE of 7.2% the company's ROE looks pretty remarkable. This certainly adds some context to Aurizon Holdings' exceptional 32% net income growth seen over the past five years. However, there could also be other causes behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.

Next, on comparing with the industry net income growth, we found that Aurizon Holdings' growth is quite high when compared to the industry average growth of 4.6% in the same period, which is great to see.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. What is AZJ worth today? The intrinsic value infographic in our free research report helps visualize whether AZJ is currently mispriced by the market.

Is Aurizon Holdings Using Its Retained Earnings Effectively?

Aurizon Holdings has a significant three-year median payout ratio of 97%, meaning the company only retains 3.0% of its income. This implies that the company has been able to achieve high earnings growth despite returning most of its profits to shareholders.

Additionally, Aurizon Holdings 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. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 98%. Accordingly, forecasts suggest that Aurizon Holdings' future ROE will be 15% which is again, similar to the current ROE.

Summary

In total, it does look like Aurizon Holdings has some positive aspects to its business. Namely, its high earnings growth, which was likely due to its high ROE. However, investors could have benefitted even more from the high ROE, had the company been reinvesting more of its earnings. As discussed earlier, the company is retaining hardly any of its profits. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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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