SEEK’s (ASX:SEK) stock is up by 6.2% over the past three months. However, we decided to study the company’s mixed-bag of fundamentals to assess what this could mean for future share prices, as stock prices tend to be aligned with a company’s long-term financial performance. Specifically, we decided to study SEEK’s ROE in this article.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
View our latest analysis for SEEK
How Do You Calculate Return On Equity?
The formula for ROE es:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders’ Equity
So, based on the above formula, the ROE for SEEK is:
13% = AU$241m ÷ AU$1.9b (Based on the trailing twelve months to June 2022).
The ‘return’ is the amount earned after tax over the last twelve months. So, this means that for every A$1 of its shareholder’s investments, the company generates a profit of A$0.13.
Why Is ROE Important For 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. 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.
SEEK’s Earnings Growth And 13% ROE
To begin with, SEEK seems to have a respectable ROE. Even so, when compared to the average industry ROE of 16%, we aren’t very excited. Further research shows that SEEK’s net income has shrunk at a rate of 18% over the last five years. Bear in mind, the company does have a high ROE. It is just that the industry ROE is higher. Hence there might be some other aspects that are causing earnings to shrink. For example, it could be that the company has a high payout ratio or the business has allocated capital poorly, for instance.
However, when we compared SEEK’s growth with the industry we found that while the company’s earnings have been shrinking, the industry has seen an earnings growth of 0.1% in the same period. This is quite worrisome.
Earnings growth is an important metric to consider when valuing a stock. 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. Is SEK fairly valued? This infographic on the company’s intrinsic value has everything you need to know.
Is SEEK Using Its Retained Earnings Effectively?
SEEK’s declining earnings is not surprising given how the company is spending most of its profits in paying dividends, judging by its three-year median payout ratio of 78% (or a retention ratio of 22%). The business is only left with a small pool of capital to reinvest – A vicious cycle that doesn’t benefit the company in the long-run.
Additionally, SEEK has paid dividends over a period of at least ten years, which means that the company’s management is determined to pay dividends even if it means little to no earnings growth. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 69%. However, SEEK’s ROE is predicted to rise to 16% despite there being no anticipated change in its payout ratio.
Overall, we have mixed feelings about SEEK. Primarily, we are disappointed to see a lack of growth in earnings even in spite of a moderate ROE. Bear in mind, the company reinvests a small portion of its profits, which explains the lack of growth. Having said that, looking at current analyst estimates, we found that the company’s earnings growth rate is expected to see a huge improvement. Are these analysts expectations based on the broad expectations for the industry, or on the company’s fundamentals? Click here to be taken to our analyst’s forecasts page for the company.
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.
Join A Paid User Research Session
You’ll receive a US$30 Amazon Gift card for 1 hour of your time while helping us build better investing tools for the individual investors like yourself. sign up here