Barrett Business Services’ (NASDAQ:BBSI) stock is up by 8.1% over the past three months. As most would know, long-term fundamentals have a strong correlation with market price movements, so we decided to look at the company’s key financial indicators today to determine if they have any role to play in the recent price movement. Specifically, we decided to study Barrett Business Services’ 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. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company’s shareholders.
See our latest analysis for Barrett Business Services
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 Barrett Business Services is:
25% = US$49m ÷ US$199m (Based on the trailing twelve months to June 2024).
The ‘return’ refers to a company’s earnings over the last year. That means that for every $1 worth of shareholders’ equity, the company generated $0.25 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.
Barrett Business Services’ Earnings Growth And 25% ROE
Firstly, we acknowledge that Barrett Business Services has a significantly high ROE. Secondly, even when compared to the industry average of 16% the company’s ROE is quite impressive. Despite this, Barrett Business Services’ five year net income growth was quite low averaging at only 2.1%. This is interesting as the high returns should mean that the company has the ability to generate high growth but for some reason, it hasn’t been able to do so. We reckon that a low growth, when returns are quite high could be the result of certain circumstances like low earnings retention or or poor allocation of capital.
We then compared Barrett Business Services’ net income growth with the industry and found that the company’s growth figure is lower than the average industry growth rate of 9.9% in the same 5-year period, which is a bit concerning.
Earnings growth is an important metric to consider when valuing a stock. 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. Is Barrett Business Services fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Barrett Business Services Using Its Retained Earnings Effectively?
Barrett Business Services has a low three-year median payout ratio of 18% (meaning, the company keeps the remaining 82% of profits) which means that the company is retaining more of its earnings. However, the low earnings growth number doesn’t reflect this fact. So there could be some other explanation in that regard. For instance, the company’s business may be deteriorating.
In addition, Barrett Business Services has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.
Summary
On the whole, we do feel that Barrett Business Services has some positive attributes. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn’t the case here. This suggests that there might be some external threat to the business, that’s hampering its growth. Having said that, looking at the current analyst estimates, we found that the company’s earnings are expected to gain momentum. Are these analysts expectations based on the broad expectations for the industry, or on the company’s fundamentals? Click here to be taken to our analyst’s forecasts page 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.
