Yahoo Finance TerraCom Limited's (ASX:TER) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?
It is hard to get excited after looking at TerraCom's (ASX:TER) recent performance, when its stock has declined 44% over the past three months. 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. Specifically, we decided to study TerraCom'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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
See our latest analysis for TerraCom
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 TerraCom is:
65% = AU$114m ÷ AU$174m (Based on the trailing twelve months to December 2023).
The 'return' is the yearly profit. So, this means that for every A$1 of its shareholder's investments, the company generates a profit of A$0.65.
Why Is ROE Important For Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.
TerraCom's Earnings Growth And 65% ROE
First thing first, we like that TerraCom has an impressive ROE. Second, a comparison with the average ROE reported by the industry of 15% also doesn't go unnoticed by us. As a result, TerraCom's exceptional 52% net income growth seen over the past five years, doesn't come as a surprise.
Next, on comparing with the industry net income growth, we found that TerraCom's growth is quite high when compared to the industry average growth of 33% 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. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if TerraCom is trading on a high P/E or a low P/E, relative to its industry.
Is TerraCom Using Its Retained Earnings Effectively?
The three-year median payout ratio for TerraCom is 49%, which is moderately low. The company is retaining the remaining 51%. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like TerraCom is reinvesting its earnings efficiently.
Additionally, TerraCom has paid dividends over a period of four years which means that the company is pretty serious about sharing its profits with shareholders.
Conclusion
Overall, we are quite pleased with TerraCom's performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. You can see the 2 risks we have identified for TerraCom by visiting our risks dashboard for free on our platform here.
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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.
