Adecoagro's (NYSE:AGRO) stock is up by a considerable 6.4% over the past month. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. In this article, we decided to focus on Adecoagro'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

How To 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 Adecoagro is:

18% = US$227m ÷ US$1.3b (Based on the trailing twelve months to December 2023).

The 'return' refers to a company's earnings over the last year. That means that for every $1 worth of shareholders' equity, the company generated $0.18 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. 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 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.

Adecoagro's Earnings Growth And 18% ROE

To begin with, Adecoagro seems to have a respectable ROE. On comparing with the average industry ROE of 14% the company's ROE looks pretty remarkable. Probably as a result of this, Adecoagro was able to see an impressive net income growth of 53% over the last five years. We reckon that there could also be other factors at play here. Such as - high earnings retention or an efficient management in place.

As a next step, we compared Adecoagro's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 15%.

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. Is Adecoagro fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Adecoagro Using Its Retained Earnings Effectively?

Adecoagro has a three-year median payout ratio of 26% (where it is retaining 74% of its income) which is not too low or not too high. So it seems that Adecoagro is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

While Adecoagro has been growing its earnings, it only recently started to pay dividends which likely means that the company decided to impress new and existing shareholders with a dividend. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 51% over the next three years. Accordingly, the expected increase in the payout ratio explains the expected decline in the company's ROE to 9.0%, over the same period.

Summary

On the whole, we feel that Adecoagro'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. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink in the future. 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.

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.