Most readers would already be aware that Columbus McKinnon's (NASDAQ:CMCO) stock increased significantly by 19% over the past three months. But the company's key financial indicators appear to be differing across the board and that makes us question whether or not the company's current share price momentum can be maintained. In this article, we decided to focus on Columbus McKinnon's 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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
Check out our latest analysis for Columbus McKinnon
How To Calculate Return On Equity?
Return on equity can be calculated by using the formula:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Columbus McKinnon is:
5.7% = US$46m ÷ US$811m (Based on the trailing twelve months to December 2022).
The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.06 in profit.
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. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. Assuming all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.
Columbus McKinnon's Earnings Growth And 5.7% ROE
When you first look at it, Columbus McKinnon's ROE doesn't look that attractive. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 13% either. Thus, the low net income growth of 3.8% seen by Columbus McKinnon over the past five years could probably be the result of the low ROE.
As a next step, we compared Columbus McKinnon's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 7.5% in the same period.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It's important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. What is CMCO worth today? The intrinsic value infographic in our free research report helps visualize whether CMCO is currently mispriced by the market.
Is Columbus McKinnon Using Its Retained Earnings Effectively?
Columbus McKinnon has a low three-year median payout ratio of 24% (meaning, the company keeps the remaining 76% of profits) which means that the company is retaining more of its earnings. This should be reflected in its earnings growth number, but that's not the case. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.
Additionally, Columbus McKinnon has paid dividends over a period of nine years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.
Summary
Overall, we have mixed feelings about Columbus McKinnon. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.
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.