Fastenal's (NASDAQ:FAST) stock is up by 6.9% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to investigate if the company's decent financials had a hand to play in the recent price move. In this article, we decided to focus on Fastenal'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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
View our latest analysis for Fastenal
How To 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 Fastenal is:
33% = US$1.1b ÷ US$3.5b (Based on the trailing twelve months to September 2023).
The 'return' is the yearly profit. That means that for every $1 worth of shareholders' equity, the company generated $0.33 in profit.
What Has ROE Got To Do With Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.
A Side By Side comparison of Fastenal's Earnings Growth And 33% ROE
First thing first, we like that Fastenal has an impressive ROE. Additionally, the company's ROE is higher compared to the industry average of 18% which is quite remarkable. This likely paved the way for the modest 9.4% net income growth seen by Fastenal over the past five years.
We then compared Fastenal's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 23% in the same 5-year period, which is a bit concerning.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. Is Fastenal fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Fastenal Efficiently Re-investing Its Profits?
Fastenal has a significant three-year median payout ratio of 67%, meaning that it is left with only 33% to reinvest into its business. This implies that the company has been able to achieve decent earnings growth despite returning most of its profits to shareholders.
Besides, Fastenal 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 69%. Accordingly, forecasts suggest that Fastenal's future ROE will be 35% which is again, similar to the current ROE.
On the whole, we do feel that Fastenal has some positive attributes. The company has grown its earnings moderately as previously discussed. Still, the high ROE could have been even more beneficial to investors had the company been reinvesting more of its profits. As highlighted earlier, the current reinvestment rate appears to be quite low. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.