Yahoo Finance Does Emerson Electric Co.'s (NYSE:EMR) Weak Fundamentals Mean A Downturn In Its Stock Should Be Expected?
Emerson Electric's (NYSE:EMR) stock is up by 8.5% over the past three months. However, its weak financial performance indicators makes us a bit doubtful if that trend could continue. Specifically, we decided to study Emerson Electric's ROE in this article.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.
See our latest analysis for Emerson Electric
How Do You 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 Emerson Electric is:
7.2% = US$1.9b ÷ US$27b (Based on the trailing twelve months to March 2024).
The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.07 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. 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. 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.
Emerson Electric's Earnings Growth And 7.2% ROE
When you first look at it, Emerson Electric's ROE doesn't look that attractive. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 14% either. Therefore, it might not be wrong to say that the five year net income decline of 3.7% seen by Emerson Electric was probably the result of it having a lower ROE. We reckon that there could also be other factors at play here. Such as - low earnings retention or poor allocation of capital.
So, as a next step, we compared Emerson Electric's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 16% over the last few years.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. What is EMR worth today? The intrinsic value infographic in our free research report helps visualize whether EMR is currently mispriced by the market.
Is Emerson Electric Using Its Retained Earnings Effectively?
With a high three-year median payout ratio of 61% (implying that 39% of the profits are retained), most of Emerson Electric's 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.
In addition, Emerson Electric has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 33% over the next three years. As a result, the expected drop in Emerson Electric's payout ratio explains the anticipated rise in the company's future ROE to 20%, over the same period.
Conclusion
Overall, we would be extremely cautious before making any decision on Emerson Electric. As a result of its low ROE and lack of much reinvestment into the business, the company has seen a disappointing earnings growth rate. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. 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. 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.
