Intertek Group plc's (LON:ITRK) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?

It is hard to get excited after looking at Intertek Group's (LON:ITRK) recent performance, when its stock has declined 9.1% over the past month. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. Particularly, we will be paying attention to Intertek Group's ROE today.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Intertek Group

How Is ROE Calculated?

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 Intertek Group is:

23% = UK£307m ÷ UK£1.3b (Based on the trailing twelve months to December 2022).

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 £0.23.

What Is The Relationship Between ROE And 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.

A Side By Side comparison of Intertek Group's Earnings Growth And 23% ROE

First thing first, we like that Intertek Group has an impressive ROE. Secondly, even when compared to the industry average of 19% the company's ROE is quite impressive. Despite this, Intertek Group's five year net income growth was quite flat over the past five years. Based on this, we feel that there might be other reasons which haven't been discussed so far in this article that could be hampering the company's growth. Such as, the company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.

Next, on comparing with the industry net income growth, we found that the industry grew its earnings by 5.1% 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. Doing so will help them establish if the stock's future looks promising or ominous. What is ITRK worth today? The intrinsic value infographic in our free research report helps visualize whether ITRK is currently mispriced by the market.

Is Intertek Group Using Its Retained Earnings Effectively?

Intertek Group has a high three-year median payout ratio of 59% (or a retention ratio of 41%), meaning that the company is paying most of its profits as dividends to its shareholders. This does go some way in explaining why there's been no growth in its earnings.

Moreover, Intertek Group has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over 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 50%. As a result, Intertek Group's ROE is not expected to change by much either, which we inferred from the analyst estimate of 24% for future ROE.

Conclusion

In total, it does look like Intertek Group 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. Bear in mind, the company reinvests a small portion of its profits, which means that investors aren't reaping the benefits of the high rate of return. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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.