Declining Stock and Solid Fundamentals: Is The Market Wrong About Henry Boot PLC (LON:BOOT)?

With its stock down 7.4% over the past week, it is easy to disregard Henry Boot (LON:BOOT). However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. In this article, we decided to focus on Henry Boot's ROE.

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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

View our latest analysis for Henry Boot

How Is ROE Calculated?

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 Henry Boot is:

8.3% = UK£26m ÷ UK£309m (Based on the trailing twelve months to June 2020).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.08 in profit.

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. 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Henry Boot's Earnings Growth And 8.3% ROE

On the face of it, Henry Boot's ROE is not much to talk about. Although a closer study shows that the company's ROE is higher than the industry average of 6.6% which we definitely can't overlook. This probably goes some way in explaining Henry Boot's moderate 7.8% growth over the past five years amongst other factors. Bear in mind, the company does have a moderately low ROE. It is just that the industry ROE is lower. So there might well be other reasons for the earnings to grow. For example, it is possible that the broader industry is going through a high growth phase, or that the company has a low payout ratio.

Next, on comparing Henry Boot's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 7.8% in the same period.

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. If you're wondering about Henry Boot's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Henry Boot Using Its Retained Earnings Effectively?

Henry Boot has a healthy combination of a moderate three-year median payout ratio of 26% (or a retention ratio of 74%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.

Besides, Henry Boot has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 34% over the next three years. Regardless, the ROE is not expected to change much for the company despite the higher expected payout ratio.

Summary

In total, we are pretty happy with Henry Boot's performance. In particular, it's great to see that the company has seen significant growth in its earnings backed by a respectable ROE and a high reinvestment rate. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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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This article by Simply Wall St is general in nature. 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.
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