Is Lovisa Holdings Limited's (ASX:LOV) Recent Stock Performance Influenced By Its Fundamentals In Any Way?

Lovisa Holdings (ASX:LOV) has had a great run on the share market with its stock up by a significant 23% over the last 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. In this article, we decided to focus on Lovisa Holdings' ROE.

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. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for Lovisa Holdings

How Do You Calculate Return On Equity?

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 Lovisa Holdings is:

71% = AU$74m ÷ AU$104m (Based on the trailing twelve months to December 2023).

The 'return' is the yearly profit. So, this means that for every A$1 of its shareholder's investments, the company generates a profit of A$0.71.

What Has ROE Got To Do With 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

A Side By Side comparison of Lovisa Holdings' Earnings Growth And 71% ROE

Firstly, we acknowledge that Lovisa Holdings has a significantly high ROE. Secondly, even when compared to the industry average of 17% the company's ROE is quite impressive. As a result, Lovisa Holdings' exceptional 24% net income growth seen over the past five years, doesn't come as a surprise.

We then compared Lovisa Holdings' net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 18% in the same 5-year 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 LOV worth today? The intrinsic value infographic in our free research report helps visualize whether LOV is currently mispriced by the market.

Is Lovisa Holdings Efficiently Re-investing Its Profits?

The really high three-year median payout ratio of 131% for Lovisa Holdings suggests that the company is paying its shareholders more than what it is earning. Despite this, the company's earnings grew significantly as we saw above. With that said, it could be worth keeping an eye on the high payout ratio as that's a huge risk.

Moreover, Lovisa Holdings is determined to keep sharing its profits with shareholders which we infer from its long history of nine years of paying a dividend. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 79% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 99%, over the same period.

Conclusion

In total, it does look like Lovisa Holdings has some positive aspects to its business. Specifically, its high ROE which likely led to the growth in earnings. Bear in mind, the company reinvests little to none of its profits, which means that investors aren't necessarily reaping the full benefits of the high rate of return. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.