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Is REA Group Limited's (ASX:REA) Stock's Recent Performance Being Led By Its Attractive Financial Prospects?

Simply Wall St
·4-min read

REA Group (ASX:REA) has had a great run on the share market with its stock up by a significant 14% over the last three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to REA Group's ROE today.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for REA Group

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

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So, based on the above formula, the ROE for REA Group is:

24% = AU$351m ÷ AU$1.5b (Based on the trailing twelve months to December 2022).

The 'return' is the yearly profit. That means that for every A$1 worth of shareholders' equity, the company generated A$0.24 in profit.

What Is The Relationship Between ROE And Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

REA Group's Earnings Growth And 24% ROE

First thing first, we like that REA Group has an impressive ROE. Even when compared to the industry average of 21% the company's ROE is pretty decent. Therefore, it might not be wrong to say that the impressive five year 26% net income growth seen by REA Group was probably achieved as a result of the high ROE.

Next, on comparing REA Group's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 22% in the same period.

past-earnings-growth
past-earnings-growth

Earnings growth is a huge factor in stock valuation. 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 REA Group fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is REA Group Making Efficient Use Of Its Profits?

REA Group's significant three-year median payout ratio of 59% (where it is retaining only 41% of its income) suggests that the company has been able to achieve a high growth in earnings despite returning most of its income to shareholders.

Additionally, REA Group 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. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 59%. As a result, REA Group's ROE is not expected to change by much either, which we inferred from the analyst estimate of 28% for future ROE.

Summary

On the whole, we feel that REA Group'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 latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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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