Should Weakness in The Swatch Group AG's (VTX:UHR) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

With its stock down 6.8% over the past three months, it is easy to disregard Swatch Group (VTX:UHR). However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. In this article, we decided to focus on Swatch Group'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Swatch Group

How To Calculate Return On Equity?

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 Swatch Group is:

7.3% = CHF890m ÷ CHF12b (Based on the trailing twelve months to December 2023).

The 'return' is the yearly profit. Another way to think of that is that for every CHF1 worth of equity, the company was able to earn CHF0.07 in profit.

Why Is ROE Important For 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.

Swatch Group's Earnings Growth And 7.3% ROE

When you first look at it, Swatch Group's ROE doesn't look that attractive. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 14%. Swatch Group was still able to see a decent net income growth of 11% over the past five years. So, there might be other aspects that are positively influencing the company's earnings growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

Next, on comparing with the industry net income growth, we found that Swatch Group's reported growth was lower than the industry growth of 16% over the last few years, which is not something we like to see.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. What is UHR worth today? The intrinsic value infographic in our free research report helps visualize whether UHR is currently mispriced by the market.

Is Swatch Group Using Its Retained Earnings Effectively?

With a three-year median payout ratio of 35% (implying that the company retains 65% of its profits), it seems that Swatch Group is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Additionally, Swatch Group has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 40% of its profits over the next three years. As a result, Swatch Group's ROE is not expected to change by much either, which we inferred from the analyst estimate of 6.9% for future ROE.

Conclusion

Overall, we feel that Swatch Group certainly does have some positive factors to consider. Specifically, its fairly high earnings growth number, which no doubt was backed by the company's high earnings retention. Still, the low ROE means that all that reinvestment is not reaping a lot of benefit to the investors. 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 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.