Are GB Group plc's (LON:GBG) Fundamentals Good Enough to Warrant Buying Given The Stock's Recent Weakness?

With its stock down 3.3% over the past month, it is easy to disregard GB Group (LON:GBG). However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on GB Group'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. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for GB Group

How Is ROE Calculated?

ROE 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 GB Group is:

6.5% = UK£23m ÷ UK£359m (Based on the trailing twelve months to September 2020).

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 £0.06.

What Has ROE Got To Do With 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. 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.

GB Group's Earnings Growth And 6.5% ROE

On the face of it, GB Group's ROE is not much to talk about. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 8.5%. Despite this, surprisingly, GB Group saw an exceptional 20% net income growth over the past five years. Therefore, there could be other reasons behind this growth. Such as - high earnings retention or an efficient management in place.

As a next step, we compared GB Group's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 12%.

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 GB Group's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is GB Group Making Efficient Use Of Its Profits?

The three-year median payout ratio for GB Group is 36%, which is moderately low. The company is retaining the remaining 64%. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like GB Group is reinvesting its earnings efficiently.

Additionally, GB 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. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 16% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 10%, over the same period.

Conclusion

Overall, we feel that GB Group 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. The latest industry analyst forecasts show that the company is expected to maintain its current growth rate. 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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