TT Electronics plc's (LON:TTG) Dismal Stock Performance Reflects Weak Fundamentals

By
Simply Wall St
Published
November 24, 2021
LSE:TTG
Source: Shutterstock

With its stock down 15% over the past three months, it is easy to disregard TT Electronics (LON:TTG). We decided to study the company's financials to determine if the downtrend will continue as the long-term performance of a company usually dictates market outcomes. Particularly, we will be paying attention to TT Electronics' ROE today.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Put another way, it reveals the company's success at turning shareholder investments into profits.

Check out our latest analysis for TT Electronics

How To 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 TT Electronics is:

3.2% = UK£10m ÷ UK£313m (Based on the trailing twelve months to June 2021).

The 'return' is the yearly profit. So, this means that for every £1 of its shareholder's investments, the company generates a profit of £0.03.

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. 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 TT Electronics' Earnings Growth And 3.2% ROE

At first glance, TT Electronics' ROE doesn't look very promising. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 15% either. For this reason, TT Electronics' five year net income decline of 15% is not surprising given its lower ROE. We reckon that there could also be other factors at play here. For example, it is possible that the business has allocated capital poorly or that the company has a very high payout ratio.

That being said, we compared TT Electronics' performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 13% in the same period.

past-earnings-growth
LSE:TTG Past Earnings Growth November 24th 2021

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. This then helps them determine if the stock is placed for a bright or bleak future. What is TTG worth today? The intrinsic value infographic in our free research report helps visualize whether TTG is currently mispriced by the market.

Is TT Electronics Using Its Retained Earnings Effectively?

TT Electronics' declining earnings is not surprising given how the company is spending most of its profits in paying dividends, judging by its three-year median payout ratio of 81% (or a retention ratio of 19%). The business is only left with a small pool of capital to reinvest - A vicious cycle that doesn't benefit the company in the long-run.

Moreover, TT Electronics 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. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 33% over the next three years. The fact that the company's ROE is expected to rise to 11% over the same period is explained by the drop in the payout ratio.

Summary

Overall, we would be extremely cautious before making any decision on TT Electronics. The company has seen a lack of earnings growth as a result of retaining very little profits and whatever little it does retain, is being reinvested at a very low 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 company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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Simply Wall St

Simply Wall St is focused on providing unbiased, high-quality research coverage on every listed company in the world. Our research team consists of data scientists and multiple equity analysts with over two decades worth of financial markets experience between them.