Are DCC plc's (LON:DCC) Fundamentals Good Enough to Warrant Buying Given The Stock's Recent Weakness?

With its stock down 8.0% over the past three months, it is easy to disregard DCC (LON:DCC). 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 DCC's 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.

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How Is ROE Calculated?

The formula for return on equity is:

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

So, based on the above formula, the ROE for DCC is:

11% = UK£343m ÷ UK£3.1b (Based on the trailing twelve months to September 2024).

The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every £1 worth of equity, the company was able to earn £0.11 in profit.

Check out our latest analysis for DCC

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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 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 DCC's Earnings Growth And 11% ROE

At first glance, DCC seems to have a decent ROE. On comparing with the average industry ROE of 7.3% the company's ROE looks pretty remarkable. This certainly adds some context to DCC's decent 6.3% net income growth seen over the past five years.

Next, on comparing with the industry net income growth, we found that DCC's reported growth was lower than the industry growth of 14% over the last few years, which is not something we like to see.

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. This then helps them determine if the stock is placed for a bright or bleak future. Is DCC fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is DCC Making Efficient Use Of Its Profits?

The high three-year median payout ratio of 55% (or a retention ratio of 45%) for DCC suggests that the company's growth wasn't really hampered despite it returning most of its income to its shareholders.

Additionally, DCC 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. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 42% over the next three years. As a result, the expected drop in DCC's payout ratio explains the anticipated rise in the company's future ROE to 14%, over the same period.

Summary

Overall, we feel that DCC certainly does have some positive factors to consider. The company has grown its earnings moderately as previously discussed. Still, the high ROE could have been even more beneficial to investors had the company been reinvesting more of its profits. As highlighted earlier, the current reinvestment rate appears to be quite low. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. 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.