LyondellBasell Industries N.V.'s (NYSE:LYB) Stock Has Shown Weakness Lately But Financial Prospects Look Decent: Is The Market Wrong?

LyondellBasell Industries (NYSE:LYB) has had a rough three months with its share price down 11%. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Specifically, we decided to study LyondellBasell Industries' ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for LyondellBasell Industries

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 LyondellBasell Industries is:

16% = US$2.2b ÷ US$14b (Based on the trailing twelve months to September 2024).

The 'return' is the yearly profit. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.16 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 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 LyondellBasell Industries' Earnings Growth And 16% ROE

To begin with, LyondellBasell Industries seems to have a respectable ROE. On comparing with the average industry ROE of 10% the company's ROE looks pretty remarkable. As you might expect, the 2.9% net income decline reported by LyondellBasell Industries is a bit of a surprise. We reckon that there could be some other factors at play here that are preventing the company's growth. For example, it could be that the company has a high payout ratio or the business has allocated capital poorly, for instance.

However, when we compared LyondellBasell Industries' growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 9.3% in the same period. This is quite worrisome.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. Is LyondellBasell Industries fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is LyondellBasell Industries Using Its Retained Earnings Effectively?

With a high three-year median payout ratio of 51% (implying that 49% of the profits are retained), most of LyondellBasell Industries' profits are being paid to shareholders, which explains the company's shrinking earnings. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. Our risks dashboard should have the 2 risks we have identified for LyondellBasell Industries.

Moreover, LyondellBasell Industries has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 51%. Accordingly, forecasts suggest that LyondellBasell Industries' future ROE will be 18% which is again, similar to the current ROE.

Summary

In total, it does look like LyondellBasell Industries has some positive aspects to its business. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return. Investors could have benefitted from the high ROE, had the company been reinvesting more of its earnings. As discussed earlier, the company is retaining a small portion of its profits. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. 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.