With its stock down 21% over the past three months, it is easy to disregard Somero Enterprises (LON:SOM). However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Particularly, we will be paying attention to Somero Enterprises' ROE today.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
How Do You Calculate Return On Equity?
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 Somero Enterprises is:
46% = US$35m ÷ US$76m (Based on the trailing twelve months to December 2021).
The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.46 in profit.
What Has ROE Got To Do With Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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 Somero Enterprises' Earnings Growth And 46% ROE
First thing first, we like that Somero Enterprises has an impressive ROE. Additionally, the company's ROE is higher compared to the industry average of 12% which is quite remarkable. This probably laid the groundwork for Somero Enterprises' moderate 13% net income growth seen over the past five years.
Next, on comparing with the industry net income growth, we found that Somero Enterprises' growth is quite high when compared to the industry average growth of 8.0% in the same period, which is great to see.
Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. Is Somero Enterprises fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Somero Enterprises Efficiently Re-investing Its Profits?
Somero Enterprises has a significant three-year median payout ratio of 50%, meaning that it is left with only 50% to reinvest into its business. This implies that the company has been able to achieve decent earnings growth despite returning most of its profits to shareholders.
Additionally, Somero Enterprises has paid dividends over a period of nine years which means that the company is pretty serious about sharing its profits with shareholders.
In total, we are pretty happy with Somero Enterprises' performance. In particular, its high ROE is quite noteworthy and also the probable explanation behind its considerable earnings growth. Yet, the company is retaining a small portion of its profits. Which means that the company has been able to grow its earnings in spite of it, so that's not too bad. So far, we've only made a quick discussion around the company's earnings growth. You can do your own research on Somero Enterprises and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.
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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.