Strategic Education's (NASDAQ:STRA) stock up by 7.9% over the past three months. Given that the markets usually pay for the long-term financial health of a company, we wonder if the current momentum in the share price will keep up, given that the company's financials don't look very promising. Particularly, we will be paying attention to Strategic Education'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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Strategic Education

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 Strategic Education is:

7.4% = US$126m ÷ US$1.7b (Based on the trailing twelve months to September 2024).

The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.07 in profit.

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. 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.

Strategic Education's Earnings Growth And 7.4% ROE

At first glance, Strategic Education's ROE doesn't look very promising. Next, when compared to the average industry ROE of 15%, the company's ROE leaves us feeling even less enthusiastic. Therefore, Strategic Education's flat earnings over the past five years can possibly be explained by the low ROE amongst other factors.

As a next step, we compared Strategic Education's net income growth with the industry and discovered that the industry saw an average growth of 21% in the same period.

Earnings growth is a huge factor in stock valuation. 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 STRA fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Strategic Education Using Its Retained Earnings Effectively?

Strategic Education's very high three-year median payout ratio of 114% suggests that the company is paying its shareholders more than what it is earning. This does go some way in explaining the negligible earnings growth seen by Strategic Education. Its usually very hard to sustain dividend payments that are higher than reported profits. That's a huge risk in our books.

Moreover, Strategic Education has been paying dividends for eight years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer dividends over earnings growth.

Summary

In total, we would have a hard think before deciding on any investment action concerning Strategic Education. Particularly, its ROE is a huge disappointment, not to mention its lack of proper reinvestment into the business. As a result its earnings growth has also been quite disappointing. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. 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.