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

With its stock down 11% over the past month, it is easy to disregard Rotork (LON:ROR). 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. Specifically, we decided to study Rotork's ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

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How Do You Calculate Return On Equity?

The formula for return on equity is:

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

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

18% = UK£105m ÷ UK£599m (Based on the trailing twelve months to December 2024).

The 'return' is the profit over the last twelve months. Another way to think of that is that for every £1 worth of equity, the company was able to earn £0.18 in profit.

View our latest analysis for Rotork

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.

A Side By Side comparison of Rotork's Earnings Growth And 18% ROE

At first glance, Rotork seems to have a decent ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 15%. This probably goes some way in explaining Rotork's moderate 6.0% growth over the past five years amongst other factors.

Next, on comparing with the industry net income growth, we found that Rotork's reported growth was lower than the industry growth of 9.3% over the last few years, which is not something we like to see.

Earnings growth is a huge factor in stock valuation. 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. Is ROR fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Rotork Making Efficient Use Of Its Profits?

Rotork has a significant three-year median payout ratio of 59%, meaning that it is left with only 41% to reinvest into its business. This implies that the company has been able to achieve decent earnings growth despite returning most of its profits to shareholders.

Moreover, Rotork 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 49%. Still, forecasts suggest that Rotork's future ROE will rise to 22% even though the the company's payout ratio is not expected to change by much.

Summary

Overall, we feel that Rotork certainly does have some positive factors to consider. Its earnings growth is decent, and the high ROE does contribute to that growth. However, investors could have benefitted even more from the high ROE, had the company been reinvesting more of its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.