With its stock down 24% over the past three months, it is easy to disregard Trex Company (NYSE:TREX). However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. Particularly, we will be paying attention to Trex Company's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

How Do You 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 Trex Company is:

29% = US$263m ÷ US$895m (Based on the trailing twelve months to June 2024).

The 'return' is the profit over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.29 in profit.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

Trex Company's Earnings Growth And 29% ROE

Firstly, we acknowledge that Trex Company has a significantly high ROE. Second, a comparison with the average ROE reported by the industry of 19% also doesn't go unnoticed by us. Probably as a result of this, Trex Company was able to see a decent net income growth of 8.9% over the last five years.

We then compared Trex Company's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 18% 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). Doing so will help them establish if the stock's future looks promising or ominous. Is Trex Company fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Trex Company Making Efficient Use Of Its Profits?

Trex Company doesn't pay any regular dividends currently which essentially means that it has been reinvesting all of its profits into the business. This definitely contributes to the decent earnings growth number that we discussed above.

Summary

On the whole, we feel that Trex Company's 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 a good amount of growth in its earnings. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. 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.