Is The Market Rewarding Anglo American plc (LON:AAL) With A Negative Sentiment As A Result Of Its Mixed Fundamentals?

With its stock down 19% over the past three months, it is easy to disregard Anglo American (LON:AAL). It seems that the market might have completely ignored the positive aspects of the company's fundamentals and decided to weigh-in more on the negative aspects. Stock prices are usually driven by a company’s financial performance over the long term, and therefore we decided to pay more attention to the company's financial performance. In this article, we decided to focus on Anglo American's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Anglo American

How Is ROE Calculated?

The formula for ROE is:

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

So, based on the above formula, the ROE for Anglo American is:

4.3% = US$1.3b ÷ US$32b (Based on the trailing twelve months to December 2023).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.04 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. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

Anglo American's Earnings Growth And 4.3% ROE

When you first look at it, Anglo American's ROE doesn't look that attractive. Next, when compared to the average industry ROE of 8.2%, the company's ROE leaves us feeling even less enthusiastic. As a result, Anglo American's flat net income growth over the past five years doesn't come as a surprise given its lower ROE.

As a next step, we compared Anglo American's net income growth with the industry and discovered that the industry saw an average growth of 12% in the same period.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for AAL? You can find out in our latest intrinsic value infographic research report.

Is Anglo American Making Efficient Use Of Its Profits?

Despite having a moderate three-year median payout ratio of 47% (meaning the company retains53% of profits) in the last three-year period, Anglo American's earnings growth was more or les flat. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Additionally, Anglo American has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. 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 40%. However, Anglo American's ROE is predicted to rise to 9.0% despite there being no anticipated change in its payout ratio.

Conclusion

In total, we're a bit ambivalent about Anglo American's performance. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.