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With its stock down 6.6% over the past three months, it is easy to disregard Pan American Silver (TSE:PAAS). However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. In this article, we decided to focus on Pan American Silver's ROE.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
How To Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Pan American Silver is:
11% = US$298m ÷ US$2.6b (Based on the trailing twelve months to June 2021).
The 'return' is the income the business earned over the last year. So, this means that for every CA$1 of its shareholder's investments, the company generates a profit of CA$0.11.
What Is The Relationship Between ROE And Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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.
Pan American Silver's Earnings Growth And 11% ROE
To start with, Pan American Silver's ROE looks acceptable. Even when compared to the industry average of 13% the company's ROE looks quite decent. Consequently, this likely laid the ground for the impressive net income growth of 27% seen over the past five years by Pan American Silver. However, there could also be other drivers behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.
Next, on comparing Pan American Silver's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 32% in the same period.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. Is PAAS fairly valued? This infographic on the company's intrinsic value has everything you need to know.
Is Pan American Silver Using Its Retained Earnings Effectively?
Pan American Silver has a really low three-year median payout ratio of 20%, meaning that it has the remaining 80% left over to reinvest into its business. So it looks like Pan American Silver is reinvesting profits heavily to grow its business, which shows in its earnings growth.
Moreover, Pan American Silver is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 18%. Still, forecasts suggest that Pan American Silver's future ROE will rise to 14% even though the the company's payout ratio is not expected to change by much.
Overall, we are quite pleased with Pan American Silver's performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. On studying current analyst estimates, we found that analysts expect the company to continue its recent growth streak. 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.
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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