With its stock down 14% in the past three months, it’s easy to overlook Action Construction Equipment (NSE:ACE). However, stock prices are usually determined by a company’s long-term financial performance, which in this case looks quite promising. In particular, we’ll be paying close attention to Action Construction Equipment’s ROE today.
Return on equity or ROE is an important factor for a shareholder to consider as it tells them how much of their capital is being reinvested. In simpler terms, it measures a company’s profitability relative to equity.
Check out our latest review for Action Construction Equipment
How to calculate return on equity?
ROE can be calculated using the formula:
Return on equity = Net income (from continuing operations) ÷ Equity
So, based on the above formula, the ROE for Action Construction Equipment is:
16% = ₹1.1 billion ÷ ₹6.9 billion (based on the last twelve months to September 2021).
The “yield” is the profit of the last twelve months. This therefore means that for every ₹1 of its shareholder’s investment, the company generates a profit of ₹0.16.
What does ROE have to do with earnings growth?
So far we have learned that ROE is a measure of a company’s profitability. Depending on how much of its profits the company chooses to reinvest or “keep”, we are then able to assess a company’s future ability to generate profits. Assuming everything else remains unchanged, the higher the ROE and earnings retention, the higher a company’s growth rate compared to companies that don’t necessarily exhibit these characteristics.
Growth in Action Construction Equipment earnings and 16% ROE
For starters, Action Construction Equipment seems to have a respectable ROE. Especially when compared to the industry average of 12%, the company’s ROE looks pretty impressive. Probably because of this, Action Construction Equipment has been able to see an impressive net profit growth of 25% over the past five years. We believe that there could also be other aspects that positively influence the company’s earnings growth. For example, it is possible that the management of the company has made good strategic decisions or that the company has a low payout ratio.
As a next step, we benchmarked Action Construction Equipment’s net profit growth against the industry, and fortunately found that the growth the company saw was above the industry average growth of 13% .
The basis for attaching value to a company is, to a large extent, linked to the growth of its profits. It is important for an investor to know whether the market has priced in the expected growth (or decline) in the company’s earnings. This then helps them determine if the stock is positioned for a bright or bleak future. If you’re wondering about Action Construction Equipment’s valuation, check out this indicator of its price-earnings ratio, relative to its industry.
Does Action Construction Equipment make effective use of its retained earnings?
Action Construction Equipment has a very low three-year median payout rate of 11%, meaning it has the remaining 89% left to reinvest in its business. So it looks like management is massively reinvesting earnings to grow their business, which is reflected in their earnings growth.
Additionally, Action Construction Equipment is committed to continuing to share its earnings with shareholders, which we infer from its long history of paying dividends for at least ten years. Our latest analyst data shows that the company’s future payout ratio is expected to drop to 6.0% over the next three years. Either way, ROE is not expected to change much for the company despite the lower expected payout ratio.
Overall, we believe Action Construction Equipment’s performance has been quite good. In particular, we appreciate the fact that the company is reinvesting heavily in its business, and at a high rate of return. Unsurprisingly, this led to impressive earnings growth. The latest forecasts from industry analysts show that the company should maintain its current growth rate. To learn more about the latest analyst forecasts for the company, check out this analyst forecast visualization for the company.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.