Will Weakness in PulteGroup, Inc.'s (NYSE:PHM) Stock Prove Temporary Given Strong Fundamentals?

With its stock down 21% over the past three months, it is easy to disregard PulteGroup (NYSE:PHM). But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Specifically, we decided to study PulteGroup's ROE in this article.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for PulteGroup

How To Calculate Return On Equity?

ROE 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 PulteGroup is:

25% = US$2.9b ÷ US$12b (Based on the trailing twelve months to September 2024).

The 'return' is the income the business earned over the last year. That means that for every $1 worth of shareholders' equity, the company generated $0.25 in profit.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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 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 PulteGroup's Earnings Growth And 25% ROE

To begin with, PulteGroup has a pretty high ROE which is interesting. Additionally, the company's ROE is higher compared to the industry average of 16% which is quite remarkable. So, the substantial 22% net income growth seen by PulteGroup over the past five years isn't overly surprising.

Next, on comparing PulteGroup's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 19% over the last few years.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. 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 PulteGroup is trading on a high P/E or a low P/E, relative to its industry.

Is PulteGroup Using Its Retained Earnings Effectively?

PulteGroup's three-year median payout ratio to shareholders is 5.8%, which is quite low. This implies that the company is retaining 94% of its profits. So it looks like PulteGroup is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Moreover, PulteGroup 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 5.7%. As a result, PulteGroup's ROE is not expected to change by much either, which we inferred from the analyst estimate of 21% for future ROE.

Conclusion

In total, we are pretty happy with PulteGroup's performance. 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. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink 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.