It is hard to get excited after looking at ComfortDelGro's (SGX:C52) recent performance, when its stock has declined 3.5% over the past month. To decide if this trend could continue, we decided to look at its weak fundamentals as they shape the long-term market trends. In this article, we decided to focus on ComfortDelGro's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

How Do You Calculate Return On Equity?

ROE 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 ComfortDelGro is:

7.5% = S$225m ÷ S$3.0b (Based on the trailing twelve months to December 2023).

The 'return' is the income the business earned over the last year. That means that for every SGD1 worth of shareholders' equity, the company generated SGD0.07 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. 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.

ComfortDelGro's Earnings Growth And 7.5% ROE

At first glance, ComfortDelGro's ROE doesn't look very promising. Yet, a closer study shows that the company's ROE is similar to the industry average of 7.9%. Having said that, ComfortDelGro's five year net income decline rate was 15%. Remember, the company's ROE is a bit low to begin with. Hence, this goes some way in explaining the shrinking earnings.

However, when we compared ComfortDelGro's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 11% in the same period. This is quite worrisome.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for C52? You can find out in our latest intrinsic value infographic research report.

Is ComfortDelGro Efficiently Re-investing Its Profits?

ComfortDelGro has a high three-year median payout ratio of 70% (that is, it is retaining 30% of its profits). This suggests that the company is paying most of its profits as dividends to its shareholders. This goes some way in explaining why its earnings have been shrinking. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent.

In addition, ComfortDelGro has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. 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 66%. However, ComfortDelGro's ROE is predicted to rise to 9.1% despite there being no anticipated change in its payout ratio.

Conclusion

In total, we would have a hard think before deciding on any investment action concerning ComfortDelGro. As a result of its low ROE and lack of much reinvestment into the business, the company has seen a disappointing earnings growth rate. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. 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.

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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.