Grafton Group plc's (LON:GFTU) Stock is Soaring But Financials Seem Inconsistent: Will The Uptrend Continue?

Grafton Group's (LON:GFTU) stock is up by a considerable 18% over the past three months. However, we wonder if the company's inconsistent financials would have any adverse impact on the current share price momentum. Particularly, we will be paying attention to Grafton 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.

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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 Grafton Group is:

7.6% = UK£122m ÷ UK£1.6b (Based on the trailing twelve months to December 2024).

The 'return' is the amount earned after tax over the last twelve months. That means that for every £1 worth of shareholders' equity, the company generated £0.08 in profit.

Check out our latest analysis for Grafton Group

What Has ROE Got To Do With 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. 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.

Grafton Group's Earnings Growth And 7.6% ROE

At first glance, Grafton Group's ROE doesn't look very promising. Next, when compared to the average industry ROE of 13%, the company's ROE leaves us feeling even less enthusiastic. Hence, the flat earnings seen by Grafton Group over the past five years could probably be the result of it having a lower ROE.

We then compared Grafton Group's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 14% in the same 5-year period, which is a bit concerning.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. What is GFTU worth today? The intrinsic value infographic in our free research report helps visualize whether GFTU is currently mispriced by the market.

Is Grafton Group Making Efficient Use Of Its Profits?

Despite having a moderate three-year median payout ratio of 43% (meaning the company retains57% of profits) in the last three-year period, Grafton Group's earnings growth was more or les flat. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

Additionally, Grafton Group has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 46%. Regardless, the future ROE for Grafton Group is predicted to rise to 9.7% despite there being not much change expected in its payout ratio.

Summary

In total, we're a bit ambivalent about Grafton Group's performance. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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.