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Orica's (ASX:ORI) stock up by 3.2% over the past month. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Specifically, we decided to study Orica's ROE in this article.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.
Check out our latest analysis for Orica
How Is ROE Calculated?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Orica is:
11% = AU$523m ÷ AU$4.7b (Based on the trailing twelve months to March 2024).
The 'return' is the income the business earned over the last year. So, this means that for every A$1 of its shareholder's investments, the company generates a profit of A$0.11.
Why Is ROE Important For Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.
A Side By Side comparison of Orica's Earnings Growth And 11% ROE
To start with, Orica's ROE looks acceptable. On comparing with the average industry ROE of 7.7% the company's ROE looks pretty remarkable. Probably as a result of this, Orica was able to see a decent growth of 7.8% over the last five years.
Next, on comparing Orica's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 9.8% over the last few years.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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 ORI fairly valued? This infographic on the company's intrinsic value has everything you need to know.
Is Orica Making Efficient Use Of Its Profits?
With a three-year median payout ratio of 49% (implying that the company retains 51% of its profits), it seems that Orica is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.