Spirax-Sarco Engineering's (LON:SPX) stock is up by 4.9% 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. In this article, we decided to focus on Spirax-Sarco Engineering's ROE.
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. Put another way, it reveals the company's success at turning shareholder investments into profits.
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 Spirax-Sarco Engineering is:
20% = UK£223m ÷ UK£1.1b (Based on the trailing twelve months to June 2022).
The 'return' refers to a company's earnings over the last year. So, this means that for every £1 of its shareholder's investments, the company generates a profit of £0.20.
What Has ROE Got To Do With Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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.
Spirax-Sarco Engineering's Earnings Growth And 20% ROE
To begin with, Spirax-Sarco Engineering seems to have a respectable ROE. On comparing with the average industry ROE of 11% the company's ROE looks pretty remarkable. This certainly adds some context to Spirax-Sarco Engineering's decent 6.4% net income growth seen over the past five years.
Next, on comparing Spirax-Sarco Engineering's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 6.4% 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. This then helps them determine if the stock is placed for a bright or bleak future. Is Spirax-Sarco Engineering fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Spirax-Sarco Engineering Using Its Retained Earnings Effectively?
With a three-year median payout ratio of 46% (implying that the company retains 54% of its profits), it seems that Spirax-Sarco Engineering is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.
Moreover, Spirax-Sarco Engineering is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. 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 43%. As a result, Spirax-Sarco Engineering's ROE is not expected to change by much either, which we inferred from the analyst estimate of 23% for future ROE.
On the whole, we feel that Spirax-Sarco Engineering's performance has been quite good. 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. 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.
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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.
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