It is hard to get excited after looking at Archer-Daniels-Midland's (NYSE:ADM) recent performance, when its stock has declined 8.2% over the past month. 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 Archer-Daniels-Midland's ROE today.

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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Archer-Daniels-Midland

How Is ROE Calculated?

Return on equity 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 Archer-Daniels-Midland is:

15% = US$3.6b ÷ US$25b (Based on the trailing twelve months to June 2022).

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 $0.15 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. 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 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.

Archer-Daniels-Midland's Earnings Growth And 15% ROE

To begin with, Archer-Daniels-Midland seems to have a respectable ROE. Even when compared to the industry average of 14% the company's ROE looks quite decent. Consequently, this likely laid the ground for the decent growth of 15% seen over the past five years by Archer-Daniels-Midland.

We then compared Archer-Daniels-Midland'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 4.3% in the same period.

Earnings growth is an important metric to consider when valuing a stock. It's important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. Is ADM fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Archer-Daniels-Midland Efficiently Re-investing Its Profits?

With a three-year median payout ratio of 45% (implying that the company retains 55% of its profits), it seems that Archer-Daniels-Midland is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Additionally, Archer-Daniels-Midland has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 34% over the next three years. Regardless, the future ROE for Archer-Daniels-Midland is predicted to decline to 9.7% 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.

Summary

Overall, we are quite pleased with Archer-Daniels-Midland'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, according to the latest industry analyst forecasts, the company's earnings are expected to shrink in the future. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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.