Are Robust Financials Driving The Recent Rally In Louisiana-Pacific Corporation's (NYSE:LPX) Stock?

Louisiana-Pacific (NYSE:LPX) has had a great run on the share market with its stock up by a significant 7.6% over the last week. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. In this article, we decided to focus on Louisiana-Pacific's ROE.

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.

View our latest analysis for Louisiana-Pacific

How Do You 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 Louisiana-Pacific is:

25% = US$417m ÷ US$1.7b (Based on the trailing twelve months to September 2024).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.25 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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 Louisiana-Pacific's Earnings Growth And 25% ROE

Firstly, we acknowledge that Louisiana-Pacific has a significantly high ROE. Secondly, even when compared to the industry average of 8.5% the company's ROE is quite impressive. This likely paved the way for the modest 5.0% net income growth seen by Louisiana-Pacific over the past five years.

As a next step, we compared Louisiana-Pacific's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 15% in the same period.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Louisiana-Pacific is trading on a high P/E or a low P/E, relative to its industry.

Is Louisiana-Pacific Making Efficient Use Of Its Profits?

Louisiana-Pacific has a low three-year median payout ratio of 14%, meaning that the company retains the remaining 86% of its profits. This suggests that the management is reinvesting most of the profits to grow the business.

Additionally, Louisiana-Pacific has paid dividends over a period of seven 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's future payout ratio is expected to rise to 18% over the next three years. Therefore, the expected rise in the payout ratio explains why the company's ROE is expected to decline to 18% over the same period.

Summary

In total, we are pretty happy with Louisiana-Pacific's performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see a good amount of growth in its earnings. The latest industry analyst forecasts show that the company is expected to maintain its current growth rate. 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.