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

Auto Trader Group (LON:AUTO) has had a rough month with its share price down 3.3%. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Particularly, we will be paying attention to Auto Trader Group's ROE today.

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.

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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 Auto Trader Group is:

50% = UK£283m ÷ UK£569m (Based on the trailing twelve months to March 2025).

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 £0.50.

Check out our latest analysis for Auto Trader Group

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. 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. 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 Auto Trader Group's Earnings Growth And 50% ROE

To begin with, Auto Trader Group has a pretty high ROE which is interesting. Secondly, even when compared to the industry average of 36% the company's ROE is quite impressive. Probably as a result of this, Auto Trader Group was able to see a decent net income growth of 12% over the last five years.

As a next step, we compared Auto Trader Group's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 12% in the same period.

Earnings growth is a huge factor in stock valuation. 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. Has the market priced in the future outlook for AUTO? You can find out in our latest intrinsic value infographic research report.

Is Auto Trader Group Using Its Retained Earnings Effectively?

Auto Trader Group has a three-year median payout ratio of 33%, which implies that it retains the remaining 67% of its profits. This suggests that its dividend is well covered, and given the decent growth seen by the company, it looks like management is reinvesting its earnings efficiently.

Additionally, Auto Trader Group has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 33%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 49%.

Summary

In total, we are pretty happy with Auto Trader Group's performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. 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.