Polman (WSE:PLM) has had a rough three months with its share price down 34%. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Polman's ROE.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
How To Calculate Return On Equity?
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 Polman is:
15% = zł1.8m ÷ zł12m (Based on the trailing twelve months to September 2020).
The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each PLN1 of shareholders' capital it has, the company made PLN0.15 in profit.
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. 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. 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 Polman's Earnings Growth And 15% ROE
To begin with, Polman seems to have a respectable ROE. Further, the company's ROE is similar to the industry average of 14%. Consequently, this likely laid the ground for the impressive net income growth of 38% seen over the past five years by Polman. However, there could also be other drivers behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.
We then compared Polman's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 9.9% in the same period.
Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about Polman's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Polman Making Efficient Use Of Its Profits?
On the whole, we feel that Polman's performance has been quite good. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. Our risks dashboard would have the 3 risks we have identified for Polman.
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This article by Simply Wall St is general in nature. 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.
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