Yahoo Finance Can Mixed Fundamentals Have A Negative Impact on Orica Limited (ASX:ORI) Current Share Price Momentum?
Orica (ASX:ORI) has had a great run on the share market with its stock up by a significant 12% over the last three months. But the company's key financial indicators appear to be differing across the board and that makes us question whether or not the company's current share price momentum can be maintained. Particularly, we will be paying attention to Orica's ROE today.
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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
View our latest analysis for Orica
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 Orica is:
2.8% = AU$89m ÷ AU$3.2b (Based on the trailing twelve months to March 2021).
The 'return' is the profit over the last twelve months. So, this means that for every A$1 of its shareholder's investments, the company generates a profit of A$0.03.
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. 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.
Orica's Earnings Growth And 2.8% ROE
As you can see, Orica's ROE looks pretty weak. Even compared to the average industry ROE of 7.8%, the company's ROE is quite dismal. In spite of this, Orica was able to grow its net income considerably, at a rate of 25% in the last five years. We reckon that there could be other factors at play here. Such as - high earnings retention or an efficient management in place.
We then compared Orica's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 36% in the same period, which is a bit concerning.
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. This then helps them determine if the stock is placed for a bright or bleak future. Is Orica fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Orica Making Efficient Use Of Its Profits?
Orica has a significant three-year median payout ratio of 78%, meaning the company only retains 22% of its income. This implies that the company has been able to achieve high earnings growth despite returning most of its profits to shareholders.
Moreover, Orica 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. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 52% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 14%, over the same period.
Summary
In total, we're a bit ambivalent about Orica's performance. While no doubt its earnings growth is pretty respectable, the low profit retention could mean that the company's earnings growth could have been higher, had it been paying reinvesting a higher portion of its profits. An improvement in its ROE could also help future earnings growth. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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. 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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