Aurizon Holdings Limited's (ASX:AZJ) Stock On An Uptrend: Could Fundamentals Be Driving The Momentum?

By
Simply Wall St
Published
January 20, 2022
ASX:AZJ
Source: Shutterstock

Aurizon Holdings (ASX:AZJ) has had a great run on the share market with its stock up by a significant 5.8% over the last month. 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. Particularly, we will be paying attention to Aurizon Holdings' ROE today.

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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Aurizon Holdings

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 Aurizon Holdings is:

14% = AU$607m ÷ AU$4.3b (Based on the trailing twelve months to June 2021).

The 'return' is the income the business earned over the last year. 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.

What Has ROE Got To Do With 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

Aurizon Holdings' Earnings Growth And 14% ROE

To begin with, Aurizon Holdings seems to have a respectable ROE. On comparing with the average industry ROE of 8.8% the company's ROE looks pretty remarkable. This certainly adds some context to Aurizon Holdings' exceptional 29% net income growth seen over the past five years. We reckon that there could also be other factors at play here. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

When you consider the fact that the industry earnings have shrunk at a rate of 8.8% in the same period, the company's net income growth is pretty remarkable.

past-earnings-growth
ASX:AZJ Past Earnings Growth January 20th 2022

Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. Has the market priced in the future outlook for AZJ? You can find out in our latest intrinsic value infographic research report.

Is Aurizon Holdings Using Its Retained Earnings Effectively?

Aurizon Holdings' significant three-year median payout ratio of 95% (where it is retaining only 5.4% 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, Aurizon Holdings has been paying dividends for at least ten years or more. 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 is expected to keep paying out approximately 93% of its profits over the next three years. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 12%.

Conclusion

Overall, we feel that Aurizon Holdings certainly does have some positive factors to consider. Specifically, its high ROE which likely led to the growth in earnings. Bear in mind, the company reinvests little to none of its profits, which means that investors aren't necessarily reaping the full benefits of the high rate of return. With that said, on studying the latest analyst forecasts, we found that while the company has seen growth in its past earnings, analysts expect its future earnings to shrink. 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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