With its stock down 20% over the past three months, it is easy to disregard Ansell (ASX:ANN). But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. In this article, we decided to focus on Ansell's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Ansell

How Is ROE Calculated?

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 Ansell is:

16% = US$248m ÷ US$1.6b (Based on the trailing twelve months to June 2021).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each A$1 of shareholders' capital it has, the company made A$0.16 in profit.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

Ansell's Earnings Growth And 16% ROE

To begin with, Ansell seems to have a respectable ROE. Even when compared to the industry average of 16% the company's ROE looks quite decent. Consequently, this likely laid the ground for the decent growth of 12% seen over the past five years by Ansell.

Next, on comparing Ansell's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 12% 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). 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 ANN? You can find out in our latest intrinsic value infographic research report.

Is Ansell Using Its Retained Earnings Effectively?

Ansell has a healthy combination of a moderate three-year median payout ratio of 46% (or a retention ratio of 54%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.

Besides, Ansell has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. 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 45%. Still, forecasts suggest that Ansell's future ROE will drop to 13% even though the the company's payout ratio is not expected to change by much.

Summary

In total, we are pretty happy with Ansell's performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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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