Is General Electric Company's (NYSE:GE) Recent Stock Performance Tethered To Its Strong Fundamentals?
General Electric (NYSE:GE) has had a great run on the share market with its stock up by a significant 18% over the last three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. In this article, we decided to focus on General Electric's ROE.
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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
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How Do You Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for General Electric is:
25% = US$8.4b ÷ US$33b (Based on the trailing twelve months to March 2023).
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 $0.25 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. 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 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.
General Electric's Earnings Growth And 25% ROE
First thing first, we like that General Electric has an impressive ROE. Additionally, a comparison with the average industry ROE of 27% also portrays the company's ROE in a good light. Given the circumstances, the significant 51% net income growth seen by General Electric over the last five years is not surprising.
We then compared General Electric'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 37% in the same 5-year 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). Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about General Electric's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is General Electric Using Its Retained Earnings Effectively?
General Electric's ' three-year median payout ratio is on the lower side at 5.9% implying that it is retaining a higher percentage (94%) of its profits. This suggests that the management is reinvesting most of the profits to grow the business as evidenced by the growth seen by the company.
Moreover, General Electric is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. 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 6.3%. However, General Electric's future ROE is expected to decline to 14% despite there being not much change anticipated in the company's payout ratio.
Summary
In total, we are pretty happy with General Electric's performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. Having said that, on studying current analyst estimates, we were concerned to see that while the company has grown its earnings in the past, analysts expect its earnings to shrink 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.