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Could The Market Be Wrong About Huntington Ingalls Industries, Inc. (NYSE:HII) Given Its Attractive Financial Prospects?

Simply Wall St

It is hard to get excited after looking at Huntington Ingalls Industries' (NYSE:HII) recent performance, when its stock has declined 36% over the past three months. However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. In this article, we decided to focus on Huntington Ingalls Industries' 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.

View our latest analysis for Huntington Ingalls Industries

How Is ROE Calculated?

ROE 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 Huntington Ingalls Industries is:

35% = US$549m ÷ US$1.6b (Based on the trailing twelve months to December 2019).

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 $0.35 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. 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. 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.

A Side By Side comparison of Huntington Ingalls Industries' Earnings Growth And 35% ROE

Firstly, we acknowledge that Huntington Ingalls Industries has a significantly high ROE. Secondly, even when compared to the industry average of 11% the company's ROE is quite impressive. This probably laid the groundwork for Huntington Ingalls Industries' moderate 14% net income growth seen over the past five years.

We then performed a comparison between Huntington Ingalls Industries' net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 14% in the same period.

NYSE:HII Past Earnings Growth May 8th 2020

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for HII? You can find out in our latest intrinsic value infographic research report.

Is Huntington Ingalls Industries Making Efficient Use Of Its Profits?

Huntington Ingalls Industries has a low three-year median payout ratio of 18%, meaning that the company retains the remaining 82% of its profits. This suggests that the management is reinvesting most of the profits to grow the business.

Moreover, Huntington Ingalls Industries is determined to keep sharing its profits with shareholders which we infer from its long history of eight years of paying a dividend. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 30% over the next three years. Regardless, the ROE is not expected to change much for the company despite the higher expected payout ratio.

Summary

Overall, we are quite pleased with Huntington Ingalls Industries' 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, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.