Most readers would already be aware that Electronic Arts' (NASDAQ:EA) stock increased significantly by 13% over the past three months. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. In this article, we decided to focus on Electronic Arts' ROE.
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.
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Electronic Arts is:
18% = US$1.1b ÷ US$6.4b (Based on the trailing twelve months to March 2025).
The 'return' is the profit over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.18 in profit.
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. 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.
A Side By Side comparison of Electronic Arts' Earnings Growth And 18% ROE
At first glance, Electronic Arts seems to have a decent ROE. Especially when compared to the industry average of 14% the company's ROE looks pretty impressive. Needless to say, we are quite surprised to see that Electronic Arts' net income shrunk at a rate of 11% over the past five years. Therefore, there might be some other aspects that could explain this. For example, it could be that the company has a high payout ratio or the business has allocated capital poorly, for instance.
However, when we compared Electronic Arts' growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 31% in the same period. This is quite worrisome.
NasdaqGS:EA Past Earnings Growth May 15th 2025
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. Has the market priced in the future outlook for EA? You can find out in our latest intrinsic value infographic research report.
Is Electronic Arts Making Efficient Use Of Its Profits?
Electronic Arts' low three-year median payout ratio of 20% (or a retention ratio of 80%) over the last three years should mean that the company is retaining most of its earnings to fuel its growth but the company's earnings have actually shrunk. This typically shouldn't be the case when a company is retaining most of its earnings. So there might be other factors at play here which could potentially be hampering growth. For instance, the business has faced some headwinds.
Additionally, Electronic Arts has paid dividends over a period of five years, which means that the company's management is rather focused on keeping up its dividend payments, regardless of the shrinking earnings. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 8.5% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 32%, over the same period.
Conclusion
On the whole, we do feel that Electronic Arts has some positive attributes. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its growth. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. To know more about the company's future earnings growth forecasts take a look at this freereport on analyst forecasts for the company to find out more.
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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.
