Declining Stock and Decent Financials: Is The Market Wrong About Arcosa, Inc. (NYSE:ACA)?

It is hard to get excited after looking at Arcosa's (NYSE:ACA) recent performance, when its stock has declined 10% over the past month. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. Specifically, we decided to study Arcosa'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Arcosa

How To Calculate Return On Equity?

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 Arcosa is:

5.3% = US$129m ÷ US$2.4b (Based on the trailing twelve months to September 2024).

The 'return' is the yearly profit. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.05.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.

Arcosa's Earnings Growth And 5.3% ROE

At first glance, Arcosa's ROE doesn't look very promising. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 18%. However, the moderate 15% net income growth seen by Arcosa over the past five years is definitely a positive. So, there might be other aspects that are positively influencing the company's earnings growth. For instance, the company has a low payout ratio or is being managed efficiently.

As a next step, we compared Arcosa's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 16% in the same period.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Arcosa is trading on a high P/E or a low P/E, relative to its industry.

Is Arcosa Making Efficient Use Of Its Profits?

In Arcosa's case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 6.8% (or a retention ratio of 93%), which suggests that the company is investing most of its profits to grow its business.

Additionally, Arcosa has paid dividends over a period of six years which means that the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 3.9% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 8.7%, over the same period.

Conclusion

In total, it does look like Arcosa has some positive aspects to its business. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.