Electronic Arts (NASDAQ: EA) shares are up 2.5% in the past three months. Since the market typically pays for the long-term financial health of a business, we decided to study the fundamentals of the business to see if they could influence the market. Specifically, we have decided to study the ROE of Electronic Arts in this article.
Return on equity or ROE is a key metric used to assess the efficiency with which the management of a business is using business capital. In short, the ROE shows the profit that each dollar generates compared to the investments of its shareholders.
See our latest review for Electronic Arts
How is the ROE calculated?
the formula for ROE is:
Return on equity = Net income (from continuing operations) ÷ Equity
So, based on the above formula, the ROE for Electronic Arts is:
11% = US $ 837 million ÷ US $ 7.8 billion (based on the last twelve months to March 2021).
The “return” is the annual profit. This means that for every dollar in shareholders’ equity, the company generated $ 0.11 in profit.
What is the relationship between ROE and profit growth?
So far we’ve learned that ROE is a measure of a company’s profitability. Based on the portion of its profits that the company chooses to reinvest or “keep”, we are then able to assess a company’s future ability to generate profits. Assuming everything else remains the same, the higher the ROE and profit retention, the higher the growth rate of a business compared to businesses that don’t necessarily have these characteristics.
A side-by-side comparison of Electronic Arts profit growth and 11% ROE
At first glance, Electronic Arts seems to have a decent ROE. And comparing with the industry, we found that the industry average ROE is similar at 13%. This certainly adds context to Electronic Arts’ moderate 12% net income growth seen over the past five years.
We then compared Electronic Arts’ net income growth with the industry and found that the company’s growth figure is lower than the industry average growth rate of 27% over the same period, which is a little worrying.
The basis for attaching value to a business is, to a large extent, related to the growth of its profits. The investor should try to establish whether the expected growth or decline in earnings, as the case may be, is taken into account. This will help him determine if the future of the stock looks bright or worrisome. Is EA valued enough? This intrinsic business value infographic has everything you need to know.
Is Electronic Arts Efficiently Reinvesting Its Profits?
Electronic Arts’ three-year median payout ratio to shareholders is 8.0% (implying that it keeps 92% of its revenue), which is lower, so it looks like management is heavily reinvesting profits to develop his activity.
While Electronic Arts has seen its profits rise, it is only recently that it has started paying a dividend. It is very likely that the company has decided to impress new and existing shareholders with a dividend. After studying the latest consensus data from analysts, we found that the company is expected to continue to pay out around 9.1% of its profits over the next three years. Either way, Electronic Arts’ future ROE is expected to reach 20%, although there isn’t much expected change in its payout ratio.
Overall, we think Electronic Arts’ performance is pretty good. Specifically, we like the fact that the company reinvests a large portion of its profits at a high rate of return. This of course allowed the company to experience good profit growth. However, the latest analyst forecasts show that the company will continue to see its profits increase. Are the expectations of these analysts based on general industry expectations or on company fundamentals? Click here to go to our business analyst forecasts page.
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This Simply Wall St article is general in nature. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in the mentioned stocks.
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