PHINIA (NYSE:PHIN) has had a rough three months with its share price down 21%. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. In this article, we decided to focus on PHINIA's ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Put another way, it reveals the company's success at turning shareholder investments into profits.

How Do You Calculate Return On Equity?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for PHINIA is:

5.0% = US$79m ÷ US$1.6b (Based on the trailing twelve months to December 2024).

The 'return' is the yearly profit. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.05 in profit.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. 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.

A Side By Side comparison of PHINIA's Earnings Growth And 5.0% ROE

On the face of it, PHINIA's ROE is not much to talk about. 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 11%. PHINIA was still able to see a decent net income growth of 15% over the past five years. So, there might be other aspects that are positively influencing the company's earnings growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

We then compared PHINIA'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 12% in the same 5-year period.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for PHIN? You can find out in our latest intrinsic value infographic research report.

Is PHINIA Making Efficient Use Of Its Profits?

With a three-year median payout ratio of 39% (implying that the company retains 61% of its profits), it seems that PHINIA is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Along with seeing a growth in earnings, PHINIA only recently started paying dividends. Its quite possible that the company was looking to impress its shareholders. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 23% over the next three years. As a result, the expected drop in PHINIA's payout ratio explains the anticipated rise in the company's future ROE to 13%, over the same period.

Summary

In total, it does look like PHINIA has some positive aspects to its business. 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. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.

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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.