Is Weakness In Pool Corporation (NASDAQ:POOL) Stock A Sign That The Market Could be Wrong Given Its Strong Financial Prospects?

It is hard to get excited after looking at Pool's (NASDAQ:POOL) recent performance, when its stock has declined 12% over the past three months. 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 Pool's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

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How Is ROE Calculated?

Return on equity 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 Pool is:

33% = US$409m ÷ US$1.2b (Based on the trailing twelve months to March 2025).

The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.33 in profit.

See our latest analysis for Pool

What Is The Relationship Between ROE And Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

A Side By Side comparison of Pool's Earnings Growth And 33% ROE

Firstly, we acknowledge that Pool has a significantly high ROE. Second, a comparison with the average ROE reported by the industry of 12% also doesn't go unnoticed by us. Yet, Pool has posted measly growth of 4.1% over the past five years. This is interesting as the high returns should mean that the company has the ability to generate high growth but for some reason, it hasn't been able to do so. A few likely reasons why this could happen is that the company could have a high payout ratio or the business has allocated capital poorly, for instance.

As a next step, we compared Pool's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 3.2%.

Earnings growth is an important metric to consider when valuing a stock. 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. What is POOL worth today? The intrinsic value infographic in our free research report helps visualize whether POOL is currently mispriced by the market.

Is Pool Using Its Retained Earnings Effectively?

Despite having a normal three-year median payout ratio of 30% (or a retention ratio of 70% over the past three years, Pool has seen very little growth in earnings as we saw above. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

In addition, Pool has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 39% over the next three years. Consequently, the higher expected payout ratio explains the decline in the company's expected ROE (to 26%) over the same period.

Conclusion

In total, we are pretty happy with Pool's performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. 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.