It is hard to get excited after looking at JD Sports Fashion’s (LON:JD.) recent performance, when its stock has declined 5.7% over the past three months. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Particularly, we will be paying attention to JD Sports Fashion’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. 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 JD Sports Fashion is:
15% = UK£399m ÷ UK£2.7b (Based on the trailing twelve months to July 2022).
The ‘return’ is the profit over the last twelve months. One way to conceptualize this is that for each £1 of shareholders’ capital it has, the company made £0.15 in profit.
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. We now need to evaluate how much profit the company reinvests or “retains” for future growth which then gives us an idea about the growth potential of the company. 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 JD Sports Fashion’s Earnings Growth And 15% ROE
To begin with, JD Sports Fashion seems to have a respectable ROE. Further, the company’s ROE is similar to the industry average of 18%. This probably goes some way in explaining JD Sports Fashion’s moderate 10% growth over the past five years amongst other factors.
We then compared JD Sports Fashion’s net income growth with the industry and we’re pleased to see that the company’s growth figure is higher when compared with the industry which has a growth rate of 7.2% in the same period.
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). Doing so will help them establish if the stock’s future looks promising or ominous. If you’re wondering about JD Sports Fashion’s’s valuation, check out this gauge of its price-to-earnings ratioas compared to its industry.
Is JD Sports Fashion Making Efficient Use Of Its Profits?
JD Sports Fashion has a low three-year median payout ratio of 4.0%, meaning that the company retains the remaining 96% of its profits. This suggests that the management is reinvesting most of the profits to grow the business.
Moreover, JD Sports Fashion is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Based on the latest analysts’ estimates, we found that the company’s future payout ratio over the next three years is expected to hold steady at 4.0%. Regardless, the future ROE for JD Sports Fashion is predicted to rise to 21% despite there being not much change expected in its payout ratio.
In total, we are pretty happy with JD Sports Fashion’s performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. On studying current analyst estimates, we found that analysts expect the company to continue its recent growth streak. 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.
Valuation is complex, but we’re helping make it simple.
Find out whether JD Sports Fashion is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.
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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.