SL Green Realty (NYSE:SLG) has had a great run on the share market with its stock up by a significant 29% over the last three months. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. Specifically, we decided to study SL Green Realty's ROE in this article.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
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 SL Green Realty is:
7.5% = US$415m ÷ US$5.5b (Based on the trailing twelve months to December 2020).
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 $0.08 in profit.
What Is The Relationship Between ROE And 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. 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.
SL Green Realty's Earnings Growth And 7.5% ROE
When you first look at it, SL Green Realty's ROE doesn't look that attractive. However, the fact that the company's ROE is higher than the average industry ROE of 5.0%, is definitely interesting. Having said that, SL Green Realty's net income growth over the past five years is more or less flat. Bear in mind, the company does have a slightly low ROE. It is just that the industry ROE is lower. Therefore, the low to flat growth in earnings could also be the result of this.
Next, on comparing with the industry net income growth, we found that SL Green Realty's reported growth was lower than the industry growth of 11% in the same period, which is not something we like to see.
Earnings growth is an important metric to consider when valuing a stock. 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. What is SLG worth today? The intrinsic value infographic in our free research report helps visualize whether SLG is currently mispriced by the market.
Is SL Green Realty Efficiently Re-investing Its Profits?
SL Green Realty has a very high three-year median payout ratio of 51% (or a retention ratio of 49%). However, it's not unusual to see a REIT with such a high payout ratio mainly due to statutory requirements. So this probably explains the absence of growth in earnings.
Additionally, SL Green Realty has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 49% of its profits over the next three years. However, SL Green Realty's future ROE is expected to decline to 0.3% despite there being not much change anticipated in the company's payout ratio.
In total, we're a bit ambivalent about SL Green Realty's performance. On the one hand, the company does have a decent rate of return, however, its earnings growth number is quite disappointing and as discussed earlier, the low retained earnings is hampering the growth. Having said that, on studying current analyst estimates, we were concerned to see that while the company has grown its earnings in the past, analysts expect its earnings to shrink in the future. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.
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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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