Could The Market Be Wrong About Loblaw Companies Limited (TSE:L) Given Its Attractive Financial Prospects?

With its stock down 9.5% over the past month, it is easy to disregard Loblaw Companies (TSE:L). However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. In this article, we decided to focus on Loblaw Companies' 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.

Check out our latest analysis for Loblaw Companies

How To 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 Loblaw Companies is:

21% = CA$2.4b ÷ CA$11b (Based on the trailing twelve months to October 2024).

The 'return' is the yearly profit. Another way to think of that is that for every CA$1 worth of equity, the company was able to earn CA$0.21 in profit.

What Is The Relationship Between ROE And 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 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.

Loblaw Companies' Earnings Growth And 21% ROE

To start with, Loblaw Companies' ROE looks acceptable. Especially when compared to the industry average of 13% the company's ROE looks pretty impressive. Probably as a result of this, Loblaw Companies was able to see a decent growth of 17% over the last five years.

As a next step, we compared Loblaw Companies' 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 5.5%.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Loblaw Companies fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Loblaw Companies Making Efficient Use Of Its Profits?

With a three-year median payout ratio of 26% (implying that the company retains 74% of its profits), it seems that Loblaw Companies is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Moreover, Loblaw Companies is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 25% of its profits over the next three years. Accordingly, forecasts suggest that Loblaw Companies' future ROE will be 23% which is again, similar to the current ROE.

Conclusion

On the whole, we feel that Loblaw Companies' performance has been quite good. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. 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. 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. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.