Darden Restaurants, Inc.'s (NYSE:DRI) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?

Most readers would already be aware that Darden Restaurants' (NYSE:DRI) stock increased significantly by 11% over the past three months. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. In this article, we decided to focus on Darden Restaurants' ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Darden Restaurants

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 Darden Restaurants is:

49% = US$1.0b ÷ US$2.1b (Based on the trailing twelve months to August 2024).

The 'return' refers to a company's earnings over the last year. That means that for every $1 worth of shareholders' equity, the company generated $0.49 in profit.

What Has ROE Got To Do With 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. 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 Darden Restaurants' Earnings Growth And 49% ROE

First thing first, we like that Darden Restaurants has an impressive ROE. Additionally, the company's ROE is higher compared to the industry average of 12% which is quite remarkable. Under the circumstances, Darden Restaurants' considerable five year net income growth of 25% was to be expected.

As a next step, we compared Darden Restaurants' net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 31% in the same period.

Earnings growth is a huge factor in stock valuation. 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. Has the market priced in the future outlook for DRI? You can find out in our latest intrinsic value infographic research report.

Is Darden Restaurants Making Efficient Use Of Its Profits?

Darden Restaurants' significant three-year median payout ratio of 60% (where it is retaining only 40% of its income) suggests that the company has been able to achieve a high growth in earnings despite returning most of its income to shareholders.

Additionally, Darden Restaurants has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 59% of its profits over the next three years. Accordingly, forecasts suggest that Darden Restaurants' future ROE will be 50% which is again, similar to the current ROE.

Summary

In total, it does look like Darden Restaurants has some positive aspects to its business. Its earnings have grown respectably as we saw earlier, which was likely due to the company reinvesting its earnings at a pretty high rate of return. However, given the high ROE, we do think that the company is reinvesting a small portion of its profits. This could likely be preventing the company from growing to its full extent. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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.