Central Garden & Pet (NASDAQ:CENT) has had a rough month with its share price down 5.9%. 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 Central Garden & Pet's 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

How To 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 Central Garden & Pet is:

8.7% = US$126m ÷ US$1.5b (Based on the trailing twelve months to September 2023).

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 $0.09 in profit.

What Is The Relationship Between ROE And Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

Central Garden & Pet's Earnings Growth And 8.7% ROE

When you first look at it, Central Garden & Pet's ROE doesn't look that attractive. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 20% either. Although, we can see that Central Garden & Pet saw a modest net income growth of 7.3% over the past five years. We reckon that there could be other factors at play here. For instance, the company has a low payout ratio or is being managed efficiently.

We then compared Central Garden & Pet'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 1.5% in the same 5-year period.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about Central Garden & Pet's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Central Garden & Pet Efficiently Re-investing Its Profits?

Given that Central Garden & Pet doesn't pay any dividend to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.

Conclusion

On the whole, we do feel that Central Garden & Pet has some positive attributes. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.