Lindsay Australia's (ASX:LAU) stock is up by a considerable 20% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Particularly, we will be paying attention to Lindsay Australia'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for Lindsay Australia

How To Calculate Return On Equity?

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 Lindsay Australia is:

19% = AU$19m ÷ AU$103m (Based on the trailing twelve months to June 2022).

The 'return' is the yearly profit. One way to conceptualize this is that for each A$1 of shareholders' capital it has, the company made A$0.19 in profit.

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.

A Side By Side comparison of Lindsay Australia's Earnings Growth And 19% ROE

To start with, Lindsay Australia's ROE looks acceptable. Especially when compared to the industry average of 9.5% the company's ROE looks pretty impressive. This probably laid the ground for Lindsay Australia's moderate 6.5% net income growth seen over the past five years.

As a next step, we compared Lindsay Australia's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 11% in the same period.

Earnings growth is a huge factor in stock valuation. 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. Has the market priced in the future outlook for LAU? You can find out in our latest intrinsic value infographic research report.

Is Lindsay Australia Using Its Retained Earnings Effectively?

Lindsay Australia has a significant three-year median payout ratio of 82%, meaning that it is left with only 18% to reinvest into its business. This implies that the company has been able to achieve decent earnings growth despite returning most of its profits to shareholders.

Additionally, Lindsay Australia 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. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 62% over the next three years. However, the company's ROE is not expected to change by much despite the lower expected payout ratio.

Summary

In total, it does look like Lindsay Australia has some positive aspects to its business. Its earnings have grown respectably as we saw earlier, which was likely due to the company reinvesting its earnings at a pretty high rate of return. However, given the high ROE, we do think that the company is reinvesting a small portion of its profits. This could likely be preventing the company from growing to its full extent. We also studied the latest analyst forecasts and found that the company's earnings growth is expected be similar to its current growth rate. 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.

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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