With its stock down 3.2% over the past month, it is easy to disregard Toromont Industries (TSE:TIH). However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Particularly, we will be paying attention to Toromont Industries' ROE today.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Toromont 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 Toromont Industries is:

18% = CA$519m ÷ CA$2.8b (Based on the trailing twelve months to June 2024).

The 'return' is the income the business earned over the last year. That means that for every CA$1 worth of shareholders' equity, the company generated CA$0.18 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. 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.

Toromont Industries' Earnings Growth And 18% ROE

To start with, Toromont Industries' ROE looks acceptable. On comparing with the average industry ROE of 13% the company's ROE looks pretty remarkable. Probably as a result of this, Toromont Industries was able to see a decent growth of 17% over the last five years.

Next, on comparing Toromont Industries' net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 20% over the last few years.

Earnings growth is a huge factor in stock valuation. 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 TIH? You can find out in our latest intrinsic value infographic research report.

Is Toromont Industries Using Its Retained Earnings Effectively?

Toromont Industries has a three-year median payout ratio of 29%, which implies that it retains the remaining 71% of its profits. This suggests that its dividend is well covered, and given the decent growth seen by the company, it looks like management is reinvesting its earnings efficiently.

Additionally, Toromont 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.

Summary

In total, we are pretty happy with Toromont Industries' performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.