Albemarle (NYSE:ALB) has had a rough three months with its share price down 16%. 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 Albemarle's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Albemarle

How Is ROE Calculated?

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 Albemarle is:

40% = US$3.8b ÷ US$9.5b (Based on the trailing twelve months to March 2023).

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 $0.40 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company's earnings growth potential. 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.

Albemarle's Earnings Growth And 40% ROE

To begin with, Albemarle has a pretty high ROE which is interesting. Second, a comparison with the average ROE reported by the industry of 16% also doesn't go unnoticed by us. So, the substantial 41% net income growth seen by Albemarle over the past five years isn't overly surprising.

We then compared Albemarle'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 15% in the same period.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. Is Albemarle fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Albemarle Making Efficient Use Of Its Profits?

The three-year median payout ratio for Albemarle is 42%, which is moderately low. The company is retaining the remaining 58%. By the looks of it, the dividend is well covered and Albemarle is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.

Moreover, Albemarle 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. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 8.1% over the next three years. Regardless, the future ROE for Albemarle is predicted to decline to 17% despite the anticipated decrease in the payout ratio. We reckon that there could probably be other factors that could be driving the forseen decline in the company's ROE.

Conclusion

On the whole, we feel that Albemarle's performance has been quite good. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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.