With its stock down 4.3% over the past month, it is easy to disregard Coles Group (ASX:COL). However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. Specifically, we decided to study Coles Group's ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

View our latest analysis for Coles Group

How Is ROE Calculated?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Coles Group is:

29% = AU$1.0b ÷ AU$3.5b (Based on the trailing twelve months to December 2023).

The 'return' is the amount earned after tax over the last twelve months. That means that for every A$1 worth of shareholders' equity, the company generated A$0.29 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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 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.

Coles Group's Earnings Growth And 29% ROE

First thing first, we like that Coles Group has an impressive ROE. Secondly, even when compared to the industry average of 14% the company's ROE is quite impressive. Given the circumstances, we can't help but wonder why Coles Group saw little to no growth in the past five years. Based on this, we feel that there might be other reasons which haven't been discussed so far in this article that could be hampering the company's growth. These include low earnings retention or poor allocation of capital

Next, on comparing with the industry net income growth, we found that Coles Group's reported growth was lower than the industry growth of 18% over the last few years, which is not something we like to see.

Earnings growth is an important metric to consider when valuing a stock. 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. Has the market priced in the future outlook for COL? You can find out in our latest intrinsic value infographic research report.