Yahoo Finance Is General Dynamics Corporation's (NYSE:GD) Recent Stock Performance Influenced By Its Financials In Any Way?
General Dynamics' (NYSE:GD) stock up by 7.8% over the past three months. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Specifically, we decided to study General Dynamics' ROE in this article.
Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
See our latest analysis for General Dynamics
How Do You Calculate Return On Equity?
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 General Dynamics is:
22% = US$3.2b ÷ US$15b (Based on the trailing twelve months to September 2020).
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 $0.22 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. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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 General Dynamics' Earnings Growth And 22% ROE
At first glance, General Dynamics seems to have a decent ROE. Further, the company's ROE compares quite favorably to the industry average of 11%. Yet, General Dynamics has posted measly growth of 4.0% over the past five years. This is generally not the case as when a company has a high rate of return it should usually also have a high earnings growth rate. We reckon that a low growth, when returns are quite high could be the result of certain circumstances like low earnings retention or poor allocation of capital.
As a next step, we compared General Dynamics' net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 17% in the same period.
Earnings growth is a huge factor in stock valuation. 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. What is GD worth today? The intrinsic value infographic in our free research report helps visualize whether GD is currently mispriced by the market.
Is General Dynamics Efficiently Re-investing Its Profits?
Despite having a normal three-year median payout ratio of 35% (or a retention ratio of 65% over the past three years, General Dynamics 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.
Additionally, General Dynamics has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 36%. Accordingly, forecasts suggest that General Dynamics' future ROE will be 21% which is again, similar to the current ROE.
Conclusion
In total, it does look like General Dynamics has some positive aspects to its business. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its growth. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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.
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. 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.
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