With its stock down 9.8% over the past three months, it is easy to disregard Ferguson Enterprises (NYSE:FERG). 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 Ferguson Enterprises' ROE today.

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 Is ROE Calculated?

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 Ferguson Enterprises is:

31% = US$1.7b ÷ US$5.6b (Based on the trailing twelve months to July 2024).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.31 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. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

A Side By Side comparison of Ferguson Enterprises' Earnings Growth And 31% ROE

To begin with, Ferguson Enterprises has a pretty high ROE which is interesting. Second, a comparison with the average ROE reported by the industry of 17% also doesn't go unnoticed by us. This likely paved the way for the modest 14% net income growth seen by Ferguson Enterprises over the past five years.

As a next step, we compared Ferguson Enterprises' net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 25% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for FERG? You can find out in our latest intrinsic value infographic research report.

Is Ferguson Enterprises Efficiently Re-investing Its Profits?

Ferguson Enterprises has a healthy combination of a moderate three-year median payout ratio of 34% (or a retention ratio of 66%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.

Besides, Ferguson Enterprises has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 31%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 35%.

Conclusion

Overall, we are quite pleased with Ferguson Enterprises' performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. As a result, the decent growth in its earnings is not surprising. 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.