Schnitzer Steel Industries (NASDAQ:SCHN) has had a great run on the share market with its stock up by a significant 19% over the last three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Specifically, we decided to study Schnitzer Steel Industries' 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Schnitzer Steel Industries

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 Schnitzer Steel Industries is:

8.3% = US$61m ÷ US$734m (Based on the trailing twelve months to February 2021).

The 'return' is the amount earned after tax over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.08 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

Schnitzer Steel Industries' Earnings Growth And 8.3% ROE

At first glance, Schnitzer Steel Industries' ROE doesn't look very promising. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 13% either. However, the moderate 15% net income growth seen by Schnitzer Steel Industries over the past five years is definitely a positive. So, the growth in the company's earnings could probably have been caused by other variables. Such as - high earnings retention or an efficient management in place.

We then compared Schnitzer Steel Industries' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 20% in the same period, which is a bit concerning.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. Is Schnitzer Steel Industries fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Schnitzer Steel Industries Making Efficient Use Of Its Profits?

Schnitzer Steel Industries' three-year median payout ratio to shareholders is 22% (implying that it retains 78% of its income), which is on the lower side, so it seems like the management is reinvesting profits heavily to grow its business.

Additionally, Schnitzer Steel Industries has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 12% over the next three years.

Summary

Overall, we feel that Schnitzer Steel Industries certainly does have some positive factors to consider. Namely, its respectable earnings growth, which it achieved due to it retaining most of its profits. However, given the low ROE, investors may not be benefitting from all that reinvestment after all. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. Our risks dashboard would have the 2 risks we have identified for Schnitzer Steel Industries.

This article by Simply Wall St is general in nature. 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.

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