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It is hard to get excited after looking at Harvey Norman Holdings' (ASX:HVN) recent performance, when its stock has declined 12% over the past three months. 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 Harvey Norman Holdings' ROE in this article.
ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
Check out our latest analysis for Harvey Norman Holdings
How To Calculate Return On Equity?
Return on equity 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 Harvey Norman Holdings is:
17% = AU$754m ÷ AU$4.5b (Based on the trailing twelve months to December 2022).
The 'return' is the yearly profit. Another way to think of that is that for every A$1 worth of equity, the company was able to earn A$0.17 in profit.
What Has ROE Got To Do With Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.
Harvey Norman Holdings' Earnings Growth And 17% ROE
At first glance, Harvey Norman Holdings seems to have a decent ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 17%. This probably goes some way in explaining Harvey Norman Holdings' moderate 20% growth over the past five years amongst other factors.
We then compared Harvey Norman Holdings' 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 14% 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. Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for HVN? You can find out in our latest intrinsic value infographic research report.