Howden Joinery Group (LON:HWDN) has had a great run on the share market with its stock up by a significant 6.7% over the last month. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company’s key financial indicators today to determine if they have any role to play in the recent price movement. Particularly, we will be paying attention to Howden Joinery Group’s ROE today.
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.
How Is ROE Calculated?
The formula for return on equity is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders’ Equity
So, based on the above formula, the ROE for Howden Joinery Group is:
23% = UK£136m ÷ UK£588m (Based on the trailing twelve months to June 2020).
The ‘return’ refers to a company’s earnings over the last year. That means that for every £1 worth of shareholders’ equity, the company generated £0.23 in profit.
Why Is ROE Important For Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.
Howden Joinery Group’s Earnings Growth And 23% ROE
To begin with, Howden Joinery Group has a pretty high ROE which is interesting. Second, a comparison with the average ROE reported by the industry of 16% also doesn’t go unnoticed by us. Given the circumstances, we can’t help but wonder why Howden Joinery Group saw little to no growth in the past five years. Based on this, we feel that there might be other reasons which haven’t been discussed so far in this article that could be hampering the company’s growth. For example, it could be that the company has a high payout ratio or the business has allocated capital poorly, for instance.
As a next step, we compared Howden Joinery Group’s net income growth with the industry and were disappointed to see that the company’s growth is lower than the industry average growth of 13% in the same period.
Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you’re wondering about Howden Joinery Group’s’s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Howden Joinery Group Making Efficient Use Of Its Profits?
Despite having a moderate three-year median payout ratio of 37% (meaning the company retains63% of profits) in the last three-year period, Howden Joinery Group’s earnings growth was more or les flat. Therefore, there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.
Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 37%. Therefore, the company’s future ROE is also not expected to change by much with analysts predicting an ROE of 24%.
On the whole, we do feel that Howden Joinery Group has some positive attributes. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return and is reinvesting ma huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that’s preventing growth. With that said, the latest industry analyst forecasts reveal that the company’s earnings are expected to accelerate. 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. 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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