Spectris plc's (LON:SXS) Stock Is Going Strong: Is the Market Following Fundamentals?

Most readers would already be aware that Spectris' (LON:SXS) stock increased significantly by 19% over the past three months. Since the market usually pay for a company’s long-term fundamentals, we decided to study the company’s key performance indicators to see if they could be influencing the market. Specifically, we decided to study Spectris' ROE in this article.

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. 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 Spectris

How Do You Calculate Return On Equity?

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 Spectris is:

16% = UK£216m ÷ UK£1.3b (Based on the trailing twelve months to June 2020).

The 'return' is the profit over the last twelve months. That means that for every £1 worth of shareholders' equity, the company generated £0.16 in profit.

What Is The Relationship Between ROE And Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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 Spectris' Earnings Growth And 16% ROE

At first glance, Spectris seems to have a decent ROE. Further, the company's ROE compares quite favorably to the industry average of 9.8%. This certainly adds some context to Spectris' decent 18% net income growth seen over the past five years.

As a next step, we compared Spectris' 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 15%.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. Is Spectris fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Spectris Making Efficient Use Of Its Profits?

Spectris has a three-year median payout ratio of 35%, which implies that it retains the remaining 65% 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.

Besides, Spectris 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 50% over the next three years. Consequently, the higher expected payout ratio explains the decline in the company's expected ROE (to 12%) over the same period.

Summary

Overall, we are quite pleased with Spectris' 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. 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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