ICA Gruppen's (STO:ICA) stock is up by 3.9% over the past three months. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Particularly, we will be paying attention to ICA Gruppen's ROE today.
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.
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 ICA Gruppen is:
12% = kr4.3b ÷ kr35b (Based on the trailing twelve months to June 2021).
The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each SEK1 of shareholders' capital it has, the company made SEK0.12 in profit.
What Has ROE Got To Do With Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.
A Side By Side comparison of ICA Gruppen's Earnings Growth And 12% ROE
To start with, ICA Gruppen's ROE looks acceptable. Even when compared to the industry average of 12% the company's ROE looks quite decent. Despite this, ICA Gruppen's five year net income growth was quite flat over the past five years. So, there could be some other aspects that could potentially be preventing the company from growing. Such as, the company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.
As a next step, we compared ICA Gruppen's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 7.0% in the same period.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if ICA Gruppen is trading on a high P/E or a low P/E, relative to its industry.
Is ICA Gruppen Using Its Retained Earnings Effectively?
With a high three-year median payout ratio of 63% (implying that the company keeps only 37% of its income) of its business to reinvest into its business), most of ICA Gruppen's profits are being paid to shareholders, which explains the absence of growth in earnings.
Additionally, ICA Gruppen 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. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 63%. As a result, ICA Gruppen's ROE is not expected to change by much either, which we inferred from the analyst estimate of 11% for future ROE.
In total, it does look like ICA Gruppen has some positive aspects to its business. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return. Investors could have benefitted from the high ROE, had the company been reinvesting more of its earnings. As discussed earlier, the company is retaining a small portion of its profits. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink slightly in the future. 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.
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