Are Robust Financials Driving The Recent Rally In Novacyt S.A.'s (EPA:ALNOV) Stock?

Most readers would already be aware that Novacyt's (EPA:ALNOV) stock increased significantly by 42% over the past three months. Since the market usually pay for a company’s long-term fundamentals, we decided to study the company’s key performance indicators to see if they could be influencing the market. Particularly, we will be paying attention to Novacyt'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.

View our latest analysis for Novacyt

How To Calculate Return On Equity?

Return on equity 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 Novacyt is:

61% = UK£85m ÷ UK£139m (Based on the trailing twelve months to June 2021).

The 'return' is the profit over the last twelve months. So, this means that for every €1 of its shareholder's investments, the company generates a profit of €0.61.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

A Side By Side comparison of Novacyt's Earnings Growth And 61% ROE

Firstly, we acknowledge that Novacyt has a significantly high ROE. Secondly, even when compared to the industry average of 13% the company's ROE is quite impressive. So, the substantial 82% net income growth seen by Novacyt over the past five years isn't overly surprising.

Next, on comparing Novacyt's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 82% in the same period.

Earnings growth is an important metric to consider when valuing a stock. 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. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Novacyt is trading on a high P/E or a low P/E, relative to its industry.

Is Novacyt Using Its Retained Earnings Effectively?

Novacyt doesn't pay any dividend to its shareholders, meaning that the company has been reinvesting all of its profits into the business. This is likely what's driving the high earnings growth number discussed above.

Conclusion

On the whole, we feel that Novacyt'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. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Not to forget, share price outcomes are also dependent on the potential risks a company may face. So it is important for investors to be aware of the risks involved in the business. To know the 3 risks we have identified for Novacyt visit our risks dashboard for free.

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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.