It is hard to get excited after looking at Westinghouse Air Brake Technologies' (NYSE:WAB) recent performance, when its stock has declined 6.1% over the past month. However, stock prices are usually driven by a company's financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on Westinghouse Air Brake Technologies' ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

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 Westinghouse Air Brake Technologies is:

9.8% = US$1.0b ÷ US$11b (Based on the trailing twelve months to June 2024).

The 'return' is the yearly profit. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.10 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. 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. 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.

Westinghouse Air Brake Technologies' Earnings Growth And 9.8% ROE

At first glance, Westinghouse Air Brake Technologies' ROE doesn't look very promising. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 15% either. However, we we're pleasantly surprised to see that Westinghouse Air Brake Technologies grew its net income at a significant rate of 23% in the last five years. So, there might be other aspects that are positively influencing the company's earnings growth. Such as - high earnings retention or an efficient management in place.

As a next step, we compared Westinghouse Air Brake Technologies' 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 12%.

Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. Has the market priced in the future outlook for WAB? You can find out in our latest intrinsic value infographic research report.

Is Westinghouse Air Brake Technologies Making Efficient Use Of Its Profits?

Westinghouse Air Brake Technologies' three-year median payout ratio to shareholders is 16%, which is quite low. This implies that the company is retaining 84% of its profits. So it looks like Westinghouse Air Brake Technologies is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Additionally, Westinghouse Air Brake Technologies 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. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 10% over the next three years. As a result, the expected drop in Westinghouse Air Brake Technologies' payout ratio explains the anticipated rise in the company's future ROE to 13%, over the same period.

Summary

Overall, we feel that Westinghouse Air Brake Technologies certainly does have some positive factors to consider. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.

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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.