Element Solutions (NYSE:ESI) has had a great run on the share market with its stock up by a significant 12% over the last 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. Specifically, we decided to study Element Solutions' ROE in this article.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.
How To 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 Element Solutions is:
3.7% = US$79m ÷ US$2.2b (Based on the trailing twelve months to June 2020).
The 'return' is the profit over the last twelve months. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.04.
What Is The Relationship Between ROE And 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. 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.
Element Solutions' Earnings Growth And 3.7% ROE
It is quite clear that Element Solutions' ROE is rather low. Even compared to the average industry ROE of 10%, the company's ROE is quite dismal. However, we we're pleasantly surprised to see that Element Solutions grew its net income at a significant rate of 53% in the last five years. Therefore, there could be other reasons behind this growth. Such as - high earnings retention or an efficient management in place.
Next, on comparing with the industry net income growth, we found that Element Solutions' growth is quite high when compared to the industry average growth of 8.3% in the same period, which is great to see.
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). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about Element Solutions''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Element Solutions Making Efficient Use Of Its Profits?
In total, it does look like Element Solutions has some positive aspects to its business. Despite its low rate of return, the fact that the company reinvests a very high portion of its profits into its business, no doubt contributed to its high earnings growth. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. 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. 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.
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