Ennis (NYSE:EBF) has had a rough three months with its share price down 13%. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. In this article, we decided to focus on Ennis’ 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. Put another way, it reveals the company’s success at turning shareholder investments into profits.
How To Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders’ Equity
So, based on the above formula, the ROE for Ennis is:
10% = US$30m ÷ US$294m (Based on the trailing twelve months to August 2020).
The ‘return’ is the profit over the last twelve months. That means that for every $1 worth of shareholders’ equity, the company generated $0.10 in profit.
What Is The Relationship Between ROE And Earnings Growth?
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. 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 Ennis’ Earnings Growth And 10% ROE
When you first look at it, Ennis’ ROE doesn’t look that attractive. However, given that the company’s ROE is similar to the average industry ROE of 12%, we may spare it some thought. On the other hand, Ennis reported a moderate 16% net income growth over the past five years. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this growth. Such as – high earnings retention or an efficient management in place.
Next, on comparing Ennis’ net income growth with the industry, we found that the company’s reported growth is similar to the industry average growth rate of 16% in the same 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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Ennis fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Ennis Efficiently Re-investing Its Profits?
While Ennis has a three-year median payout ratio of 61% (which means it retains 39% of profits), the company has still seen a fair bit of earnings growth in the past, meaning that its high payout ratio hasn’t hampered its ability to grow.
Additionally, Ennis 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.
On the whole, we do feel that Ennis has some positive attributes. That is, quite an impressive growth in earnings. However, the low profit retention means that the company’s earnings growth could have been higher, had it been reinvesting a higher portion of its profits. Until now, we have only just grazed the surface of the company’s past performance by looking at the company’s fundamentals. To gain further insights into Ennis’ past profit growth, check out this visualization of past earnings, revenue and cash flows.
This article by Simply Wall St is general in nature. 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.