Spectris’ (LON:SXS) stock is up by a considerable 17% over the past month. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to Spectris’ ROE today.
ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
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 Spectris is:
28% = UK£347m ÷ UK£1.3b (Based on the trailing twelve months to December 2021).
The ‘return’ is the income the business earned over the last year. One way to conceptualize this is that for each £1 of shareholders’ capital it has, the company made £0.28 in profit.
What Has ROE Got To Do With 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. 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.
Spectris’ Earnings Growth And 28% ROE
To begin with, Spectris has a pretty high ROE which is interesting. Secondly, even when compared to the industry average of 14% the company’s ROE is quite impressive. Probably as a result of this, Spectris was able to see a decent net income growth of 16% over the last five years.
As a next step, we compared Spectris’ 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 0.1%.
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. What is SXS worth today? The intrinsic value infographic in our free research report helps visualize whether SXS is currently mispriced by the market.
Is Spectris Making Efficient Use Of Its Profits?
With a three-year median payout ratio of 35% (implying that the company retains 65% of its profits), it seems that Spectris is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that’s well covered.
Besides, Spectris has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Looking at the current analyst consensus data, we can see that the company’s future payout ratio is expected to rise to 46% over the next three years. Consequently, the higher expected payout ratio explains the decline in the company’s expected ROE (to 15%) over the same period.
On the whole, we feel that Spectris’ performance has been quite good. 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. Having said that, on studying current analyst estimates, we were concerned to see that while the company has grown its earnings in the past, analysts expect its earnings to shrink in the future. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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.