With its stock down 8.6% over the past three months, it is easy to disregard Dr. Martens (LON:DOCS). 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 Dr. Martens’ 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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
How Do You 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 Dr. Martens is:
55% = UK£181m ÷ UK£328m (Based on the trailing twelve months to March 2022).
The ‘return’ refers to a company’s earnings over the last year. Another way to think of that is that for every £1 worth of equity, the company was able to earn £0.55 in profit.
Why Is ROE Important For Earnings Growth?
So far, we’ve learned that ROE is a measure of a company’s profitability. 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.
Dr. Martens’ Earnings Growth And 55% ROE
Firstly, we acknowledge that Dr. Martens has a significantly high ROE. Second, a comparison with the average ROE reported by the industry of 21% also doesn’t go unnoticed by us. So, the substantial 42% net income growth seen by Dr. Martens over the past five years isn’t overly surprising.
Next, on comparing with the industry net income growth, we found that Dr. Martens’ growth is quite high when compared to the industry average growth of 2.7% in the same period, which is great to see.
Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. Is Dr. Martens fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Dr. Martens Efficiently Re-investing Its Profits?
Dr. Martens 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. By the looks of it, the dividend is well covered and Dr. Martens is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.
Along with seeing a growth in earnings, Dr. Martens only recently started paying dividends. Its quite possible that the company was looking to impress its shareholders. Upon studying the latest analysts’ consensus data, we found that the company’s future payout ratio is expected to rise to 33% over the next three years. Accordingly, the expected increase in the payout ratio explains the expected decline in the company’s ROE to 35%, over the same period.
On the whole, we feel that Dr. Martens’ 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. 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.
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