Yahoo Finance Allied Farmers Limited's (NZSE:ALF) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?
Allied Farmers (NZSE:ALF) has had a rough month with its share price down 5.9%. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. In this article, we decided to focus on Allied Farmers' ROE.
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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
View our latest analysis for Allied Farmers
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 Allied Farmers is:
20% = NZ$4.1m ÷ NZ$20m (Based on the trailing twelve months to December 2023).
The 'return' is the yearly profit. So, this means that for every NZ$1 of its shareholder's investments, the company generates a profit of NZ$0.20.
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. 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. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.
Allied Farmers' Earnings Growth And 20% ROE
At first glance, Allied Farmers seems to have a decent ROE. Especially when compared to the industry average of 10% the company's ROE looks pretty impressive. This certainly adds some context to Allied Farmers' exceptional 25% net income growth seen over the past five years. However, there could also be other causes behind this growth. Such as - high earnings retention or an efficient management in place.
Next, on comparing with the industry net income growth, we found that the growth figure reported by Allied Farmers compares quite favourably to the industry average, which shows a decline of 3.7% over the last few years.
Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Allied Farmers is trading on a high P/E or a low P/E, relative to its industry.
Is Allied Farmers Using Its Retained Earnings Effectively?
While the company did pay out a portion of its dividend in the past, it currently doesn't pay a dividend. This is likely what's driving the high earnings growth number discussed above.
Summary
In total, we are pretty happy with Allied Farmers' performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. To know the 2 risks we have identified for Allied Farmers visit our risks dashboard for free.
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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.
