Procter & Gamble (NYSE:PG) has had a rough month with its share price down 7.4%. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Specifically, we decided to study Procter & Gamble's ROE in this article.
ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Put another way, it reveals the company's success at turning shareholder investments into profits.
How Is ROE Calculated?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Procter & Gamble is:
32% = US$14b ÷ US$45b (Based on the trailing twelve months to March 2023).
The 'return' refers to a company's earnings over the last year. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.32.
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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.
Procter & Gamble's Earnings Growth And 32% ROE
Firstly, we acknowledge that Procter & Gamble has a significantly high ROE. Second, a comparison with the average ROE reported by the industry of 11% also doesn't go unnoticed by us. This probably laid the groundwork for Procter & Gamble's moderate 14% net income growth seen over the past five years.
Next, on comparing with the industry net income growth, we found that Procter & Gamble's growth is quite high when compared to the industry average growth of 4.1% in the same period, which is great to see.
Earnings growth is an important metric to consider when valuing a stock. 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. What is PG worth today? The intrinsic value infographic in our free research report helps visualize whether PG is currently mispriced by the market.
Is Procter & Gamble Using Its Retained Earnings Effectively?
The high three-year median payout ratio of 59% (or a retention ratio of 41%) for Procter & Gamble suggests that the company's growth wasn't really hampered despite it returning most of its income to its shareholders.
Additionally, Procter & Gamble has paid dividends over a period of at least ten 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 is expected to keep paying out approximately 59% of its profits over the next three years. As a result, Procter & Gamble's ROE is not expected to change by much either, which we inferred from the analyst estimate of 38% for future ROE.
On the whole, we feel that Procter & Gamble's performance has been quite good. Especially the high ROE, Which has contributed to the impressive growth seen in earnings. Despite the company reinvesting only a small portion of its profits, it still has managed to grow its earnings so that is appreciable. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.
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