Atlas (NYSE:ATCO) has had a great run on the share market with its stock up by a significant 14% over the last three months. Given that stock prices are usually aligned with a company’s financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. In this article, we decided to focus on Atlas’ ROE.
Return on equity or ROE is a key measure used to assess how efficiently a company’s management is utilizing the company’s capital. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company’s shareholders.
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 Atlas is:
5.5% = US$222m ÷ US$4.0b (Based on the trailing twelve months to June 2021).
The ‘return’ refers to a company’s earnings over the last year. So, this means that for every $1 of its shareholder’s investments, the company generates a profit of $0.06.
What Is The Relationship Between ROE And 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.
A Side By Side comparison of Atlas’ Earnings Growth And 5.5% ROE
When you first look at it, Atlas’ ROE doesn’t look that attractive. We then compared the company’s ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 12%. Despite this, surprisingly, Atlas saw an exceptional 35% net income growth over the past five years. We reckon that there could be other factors at play here. For instance, the company has a low payout ratio or is being managed efficiently.
Next, on comparing Atlas’ net income growth with the industry, we found that the company’s reported growth is similar to the industry average growth rate of 30% in the same period.
Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Atlas fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Atlas Making Efficient Use Of Its Profits?
Atlas has a three-year median payout ratio of 37% (where it is retaining 63% of its income) which is not too low or not too high. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like Atlas is reinvesting its earnings efficiently.
Additionally, Atlas 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. Upon studying the latest analysts’ consensus data, we found that the company’s future payout ratio is expected to drop to 24% over the next three years. However, Atlas’ future ROE is expected to decline to 3.5% despite the expected decline in its payout ratio. We infer that there could be other factors that could be steering the foreseen decline in the company’s ROE.
Overall, we feel that Atlas certainly does have some positive factors to consider. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. We also studied the latest analyst forecasts and found that the company’s earnings growth is expected be similar to its current growth rate. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.
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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.
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