Dow Inc.’s (NYSE:DOW) Stock Has Shown Weakness Lately But Financial Prospects Look Decent: Is The Market Wrong?

With its stock down 9.5% over the past three months, it is easy to disregard Dow (NYSE:DOW). However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. Particularly, we will be paying attention to Dow’s ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Dow

How To 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 Dow is:

6.5% = US$1.2b ÷ US$19b (Based on the trailing twelve months to June 2024).

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 $0.07 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 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.

Dow’s Earnings Growth And 6.5% ROE

When you first look at it, Dow’s ROE doesn’t look that attractive. We then compared the company’s ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 9.6%. In spite of this, Dow was able to grow its net income considerably, at a rate of 21% in the last five years. We reckon that there could be other factors at play here. Such as – high earnings retention or an efficient management in place.

As a next step, we compared Dow’s net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 13%.

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). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Dow fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Dow Making Efficient Use Of Its Profits?

Dow’s significant three-year median payout ratio of 51% (where it is retaining only 49% of its income) suggests that the company has been able to achieve a high growth in earnings despite returning most of its income to shareholders.

Moreover, Dow is determined to keep sharing its profits with shareholders which we infer from its long history of five years of paying a dividend. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 55%. Still, forecasts suggest that Dow’s future ROE will rise to 18% even though the the company’s payout ratio is not expected to change by much.

Conclusion

In total, it does look like Dow has some positive aspects to its business. That is, quite an impressive growth in earnings. However, the low profit retention means that the company’s earnings growth could have been higher, had it been reinvesting a higher portion of its profits. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.