Should Weakness in Ashland Inc.'s (NYSE:ASH) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

Ashland (NYSE:ASH) has had a rough three months with its share price down 7.6%. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on Ashland's ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for Ashland

How Is ROE Calculated?

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 Ashland is:

5.8% = US$172m ÷ US$3.0b (Based on the trailing twelve months to June 2024).

The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.06 in profit.

What Is The Relationship Between ROE And 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. 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.

Ashland's Earnings Growth And 5.8% ROE

On the face of it, Ashland's ROE is not much to talk about. Next, when compared to the average industry ROE of 9.2%, the company's ROE leaves us feeling even less enthusiastic. However, we we're pleasantly surprised to see that Ashland grew its net income at a significant rate of 49% in the last five years. Therefore, there could be other reasons behind this growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

As a next step, we compared Ashland's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 12%.

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. Is ASH fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Ashland Using Its Retained Earnings Effectively?

Ashland has a three-year median payout ratio of 43% (where it is retaining 57% of its income) which is not too low or not too high. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like Ashland is reinvesting its earnings efficiently.

Besides, Ashland has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 27% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 9.9%, over the same period.

Conclusion

Overall, we feel that Ashland certainly does have some positive factors to consider. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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.