Yahoo Finance Fresnillo plc's (LON:FRES) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?
Fresnillo (LON:FRES) has had a great run on the share market with its stock up by a significant 14% over the last three months. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Particularly, we will be paying attention to Fresnillo's ROE today.
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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
See our latest analysis for Fresnillo
How Is ROE Calculated?
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 Fresnillo is:
17% = US$627m ÷ US$3.8b (Based on the trailing twelve months to June 2021).
The 'return' is the amount earned after tax over the last twelve months. So, this means that for every £1 of its shareholder's investments, the company generates a profit of £0.17.
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.
Fresnillo's Earnings Growth And 17% ROE
To begin with, Fresnillo seems to have a respectable ROE. Even when compared to the industry average of 17% the company's ROE looks quite decent. However, while Fresnillo has a pretty respectable ROE, its five year net income decline rate was 3.8% . So, there might be some other aspects that could explain this. 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 Fresnillo's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 22% in the same period. This is quite worrisome.
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. Doing so will help them establish if the stock's future looks promising or ominous. Is FRES fairly valued? This infographic on the company's intrinsic value has everything you need to know.
Is Fresnillo Making Efficient Use Of Its Profits?
With a high three-year median payout ratio of 53% (implying that 47% of the profits are retained), most of Fresnillo's profits are being paid to shareholders, which explains the company's shrinking earnings. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. Our risks dashboard should have the 2 risks we have identified for Fresnillo.
Moreover, Fresnillo has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over 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 53%. Accordingly, forecasts suggest that Fresnillo's future ROE will be 14% which is again, similar to the current ROE.
Summary
On the whole, we do feel that Fresnillo has some positive attributes. However, while the company does have a high ROE, its earnings growth number is quite disappointing. This can be blamed on the fact that it reinvests only a small portion of its profits and pays out the rest as dividends. That being so, the latest industry analyst forecasts show that analysts are forecasting a slight improvement in the company's future earnings growth. This could offer some relief to the company's existing shareholders. 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.
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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