Does The J. M. Smucker Company's (NYSE:SJM) Weak Fundamentals Mean That The Stock Could Move In The Opposite Direction?

Most readers would already know that J. M. Smucker's (NYSE:SJM) stock increased by 9.4% over the past three months. However, its weak financial performance indicators makes us a bit doubtful if that trend could continue. In this article, we decided to focus on J. M. Smucker's ROE.

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.

Check out our latest analysis for J. M. Smucker

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 J. M. Smucker is:

7.2% = US$588m ÷ US$8.1b (Based on the trailing twelve months to July 2022).

The 'return' is the yearly profit. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.07.

What Is The Relationship Between ROE And 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. 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.

J. M. Smucker's Earnings Growth And 7.2% ROE

At first glance, J. M. Smucker's ROE doesn't look very promising. 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 12%. Given the circumstances, the significant decline in net income by 7.0% seen by J. M. Smucker over the last five years is not surprising. However, there could also be other factors causing the earnings to decline. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

However, when we compared J. M. Smucker's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 4.0% in the same period. This is quite worrisome.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. Is J. M. Smucker fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is J. M. Smucker Efficiently Re-investing Its Profits?

J. M. Smucker has a high three-year median payout ratio of 54% (that is, it is retaining 46% of its profits). This suggests that the company is paying most of its profits as dividends to its shareholders. This goes some way in explaining why its earnings have been shrinking. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. You can see the 2 risks we have identified for J. M. Smucker by visiting our risks dashboard for free on our platform here.

Additionally, J. M. Smucker has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 42% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 12%, over the same period.

Conclusion

Overall, we would be extremely cautious before making any decision on J. M. Smucker. Because the company is not reinvesting much into the business, and given the low ROE, it's not surprising to see the lack or absence of growth in its earnings. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.

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