With its stock down 20% over the past three months, it is easy to disregard Academy Sports and Outdoors (NASDAQ:ASO). 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. Specifically, we decided to study Academy Sports and Outdoors' ROE in this article.

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 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 Academy Sports and Outdoors is:

26% = US$502m ÷ US$1.9b (Based on the trailing twelve months to May 2024).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.26 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company's earnings growth potential. 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.

Academy Sports and Outdoors' Earnings Growth And 26% ROE

First thing first, we like that Academy Sports and Outdoors has an impressive ROE. Additionally, the company's ROE is higher compared to the industry average of 19% which is quite remarkable. Under the circumstances, Academy Sports and Outdoors' considerable five year net income growth of 21% was to be expected.

Next, on comparing Academy Sports and Outdoors' net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 23% over the last few years.

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). Doing so will help them establish if the stock's future looks promising or ominous. Is ASO fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Academy Sports and Outdoors Making Efficient Use Of Its Profits?

Academy Sports and Outdoors' three-year median payout ratio to shareholders is 4.3%, which is quite low. This implies that the company is retaining 96% of its profits. So it looks like Academy Sports and Outdoors is reinvesting profits heavily to grow its business, which shows in its earnings growth.

While Academy Sports and Outdoors has seen growth in its earnings, it only recently started to pay a dividend. It is most likely that the company decided to impress new and existing shareholders with a dividend. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 11% over the next three years. Consequently, the higher expected payout ratio explains the decline in the company's expected ROE (to 20%) over the same period.

Summary

Overall, we are quite pleased with Academy Sports and Outdoors' performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com