Crown Crafts' (NASDAQ:CRWS) stock up by 3.5% over the past week. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to Crown Crafts' ROE today.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
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 Crown Crafts is:
18% = US$7.5m ÷ US$42m (Based on the trailing twelve months to December 2020).
The 'return' is the profit over the last twelve months. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.18 in profit.
Why Is ROE Important For Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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.
A Side By Side comparison of Crown Crafts' Earnings Growth And 18% ROE
At first glance, Crown Crafts seems to have a decent ROE. Especially when compared to the industry average of 11% the company's ROE looks pretty impressive. Despite this, Crown Crafts' five year net income growth was quite flat over the past five years. Based on this, we feel that there might be other reasons which haven't been discussed so far in this article that could be hampering the company's growth. Such as, the company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.
Given that the industry shrunk its earnings at a rate of 6.8% in the same period, the net income growth of the company is quite impressive.
Earnings growth is a huge factor in stock valuation. 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. Is Crown Crafts fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Crown Crafts Making Efficient Use Of Its Profits?
Crown Crafts has a high three-year median payout ratio of 56% (or a retention ratio of 44%), meaning that the company is paying most of its profits as dividends to its shareholders. This does go some way in explaining why there's been no growth in its earnings.
Additionally, Crown Crafts 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.
Overall, we are quite pleased with Crown Crafts' performance. We are particularly impressed by the considerable earnings growth posted by the company, which was likely backed by its high ROE. While the company is paying out most of its earnings as dividends, it has been able to grow its earnings in spite of it, so that's probably a good sign. 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 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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