Huhtamäki Oyj's (HEL:HUH1V) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?

Huhtamäki Oyj (HEL:HUH1V) has had a great run on the share market with its stock up by a significant 9.2% over the last month. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Particularly, we will be paying attention to Huhtamäki Oyj's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for Huhtamäki Oyj

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 Huhtamäki Oyj is:

14% = €285m ÷ €2.0b (Based on the trailing twelve months to September 2022).

The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each €1 of shareholders' capital it has, the company made €0.14 in profit.

What Has ROE Got To Do With 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.

Huhtamäki Oyj's Earnings Growth And 14% ROE

At first glance, Huhtamäki Oyj seems to have a decent ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 13%. Despite the moderate return on equity, Huhtamäki Oyj has posted a net income growth of 4.5% over the past five years. We reckon that a low growth, when returns are moderate could be the result of certain circumstances like low earnings retention or poor allocation of capital.

As a next step, we compared Huhtamäki Oyj'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 12% 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. Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for HUH1V? You can find out in our latest intrinsic value infographic research report.

Is Huhtamäki Oyj Efficiently Re-investing Its Profits?

Despite having a moderate three-year median payout ratio of 49% (implying that the company retains the remaining 51% of its income), Huhtamäki Oyj's earnings growth was quite low. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

In addition, Huhtamäki Oyj has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business 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 48%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 14%.

Summary

In total, it does look like Huhtamäki Oyj has some positive aspects to its business. Although, we are disappointed to see a lack of growth in earnings even in spite of a high ROE and and a high reinvestment rate. We believe that there might be some outside factors that could be having a negative impact on the business. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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.