In This Article:
With its stock down 15% over the past three months, it is easy to disregard Erie Indemnity (NASDAQ:ERIE). However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Erie Indemnity's ROE.
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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
See our latest analysis for Erie Indemnity
How Is ROE Calculated?
The formula for return on equity is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Erie Indemnity is:
29% = US$559m ÷ US$1.9b (Based on the trailing twelve months to September 2024).
The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.29 in profit.
What Has ROE Got To Do With Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.
Erie Indemnity's Earnings Growth And 29% ROE
First thing first, we like that Erie Indemnity has an impressive ROE. Second, a comparison with the average ROE reported by the industry of 14% also doesn't go unnoticed by us. This probably laid the groundwork for Erie Indemnity's moderate 12% net income growth seen over the past five years.
We then performed a comparison between Erie Indemnity's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 13% in the same 5-year period.
Earnings growth is an important metric to consider when valuing a stock. 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. 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 Erie Indemnity is trading on a high P/E or a low P/E, relative to its industry.