Stock Analysis

Porvair plc's (LON:PRV) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?

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LSE:PRV
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With its stock down 3.7% over the past month, it is easy to disregard Porvair (LON:PRV). But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Particularly, we will be paying attention to Porvair's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for Porvair

How To Calculate Return On Equity?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Porvair is:

8.6% = UK£8.4m ÷ UK£98m (Based on the trailing twelve months to November 2020).

The 'return' is the yearly profit. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.09 in profit.

Why Is ROE Important For 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 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.

Porvair's Earnings Growth And 8.6% ROE

When you first look at it, Porvair's ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 8.8%, we may spare it some thought. Even so, Porvair has shown a fairly decent growth in its net income which grew at a rate of 8.4%. Taking into consideration that the ROE is not particularly high, we reckon that there could also be other factors at play which could be influencing the company's growth. For instance, the company has a low payout ratio or is being managed efficiently.

Next, on comparing Porvair's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 8.0% in the same period.

past-earnings-growth
LSE:PRV Past Earnings Growth February 22nd 2021

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). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Porvair is trading on a high P/E or a low P/E, relative to its industry.

Is Porvair Using Its Retained Earnings Effectively?

Porvair's three-year median payout ratio to shareholders is 20% (implying that it retains 80% of its income), which is on the lower side, so it seems like the management is reinvesting profits heavily to grow its business.

Moreover, Porvair is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 21%.

Summary

Overall, we feel that Porvair certainly does have some positive factors to consider. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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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