Is Saputo Inc.'s (TSE:SAP) Recent Performance Underpinned By Weak Financials?

Saputo (TSE:SAP) has had a rough three months with its share price down 14%. To decide if this trend could continue, we decided to look at its weak fundamentals as they shape the long-term market trends. Specifically, we decided to study Saputo's ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Saputo

How Is ROE Calculated?

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 Saputo is:

3.2% = CA$236m ÷ CA$7.4b (Based on the trailing twelve months to September 2024).

The 'return' is the amount earned after tax over the last twelve months. So, this means that for every CA$1 of its shareholder's investments, the company generates a profit of CA$0.03.

What Is The Relationship Between ROE And 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. 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.

A Side By Side comparison of Saputo's Earnings Growth And 3.2% ROE

As you can see, Saputo's ROE looks pretty weak. Even compared to the average industry ROE of 7.7%, the company's ROE is quite dismal. For this reason, Saputo's five year net income decline of 14% is not surprising given its lower ROE. However, there could also be other factors causing the earnings to decline. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

Next, when we compared with the industry, which has shrunk its earnings at a rate of 3.2% in the same 5-year period, we still found Saputo's performance to be quite bleak, because the company has been shrinking its earnings faster than the industry.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. Is Saputo fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Saputo Making Efficient Use Of Its Profits?

Saputo has a high three-year median payout ratio of 83% (that is, it is retaining 17% of its profits). This suggests that the company is paying most of its profits as dividends to its shareholders. This goes some way in explaining why its earnings have been shrinking. The business is only left with a small pool of capital to reinvest - A vicious cycle that doesn't benefit the company in the long-run. Our risks dashboard should have the 4 risks we have identified for Saputo.

In addition, Saputo has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 40% over the next three years. As a result, the expected drop in Saputo's payout ratio explains the anticipated rise in the company's future ROE to 11%, over the same period.

Conclusion

Overall, we would be extremely cautious before making any decision on Saputo. The company has seen a lack of earnings growth as a result of retaining very little profits and whatever little it does retain, is being reinvested at a very low rate of return. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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. 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.