Williams-Sonoma (NYSE:WSM) has had a great run on the share market with its stock up by a significant 29% over the last three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. In this article, we decided to focus on Williams-Sonoma'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. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for Williams-Sonoma

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 Williams-Sonoma is:

52% = US$950m ÷ US$1.8b (Based on the trailing twelve months to October 2023).

The 'return' is the amount earned after tax over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.52 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don't share these attributes.

Williams-Sonoma's Earnings Growth And 52% ROE

To begin with, Williams-Sonoma has a pretty high ROE which is interesting. Additionally, the company's ROE is higher compared to the industry average of 20% which is quite remarkable. Under the circumstances, Williams-Sonoma's considerable five year net income growth of 28% was to be expected.

We then performed a comparison between Williams-Sonoma's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 26% in the same 5-year 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. What is WSM worth today? The intrinsic value infographic in our free research report helps visualize whether WSM is currently mispriced by the market.

Is Williams-Sonoma Using Its Retained Earnings Effectively?

Williams-Sonoma's ' three-year median payout ratio is on the lower side at 19% implying that it is retaining a higher percentage (81%) of its profits. So it seems like the management is reinvesting profits heavily to grow its business and this reflects in its earnings growth number.

Besides, Williams-Sonoma has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 30% over the next three years. Therefore, the expected rise in the payout ratio explains why the company's ROE is expected to decline to 39% over the same period.

Conclusion

Overall, we are quite pleased with Williams-Sonoma's performance. 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. 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 latest analysts predictions for the company, check out this visualization of analyst forecasts 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.