easyJet plc's (LON:EZJ) Stock Is Going Strong: Have Financials A Role To Play?

Most readers would already be aware that easyJet's (LON:EZJ) stock increased significantly by 18% over the past three months. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. Particularly, we will be paying attention to easyJet's 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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for easyJet

How Do You Calculate Return On Equity?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for easyJet is:

15% = UK£374m ÷ UK£2.4b (Based on the trailing twelve months to March 2024).

The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.15 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. 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.

easyJet's Earnings Growth And 15% ROE

To start with, easyJet's ROE looks acceptable. Even so, when compared with the average industry ROE of 28%, we aren't very excited. easyJet was still able to see a decent net income growth of 8.4% over the past five years. Therefore, the growth in earnings could probably have been caused by other variables. Such as - high earnings retention or an efficient management in place. However, not to forget, the company does have a decent ROE to begin with, just that it is lower than the industry average. So this also provides some context to the earnings growth seen by the company.

Next, on comparing with the industry net income growth, we found that easyJet's reported growth was lower than the industry growth of 32% over the last few years, which is not something we like to see.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if easyJet is trading on a high P/E or a low P/E, relative to its industry.

Is easyJet Making Efficient Use Of Its Profits?

In easyJet's case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 9.7% (or a retention ratio of 90%), which suggests that the company is investing most of its profits to grow its business.

Moreover, easyJet is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Looking at the current analyst consensus data, we can see that the company's future payout ratio is expected to rise to 21% over the next three years. Regardless, the ROE is not expected to change much for the company despite the higher expected payout ratio.

Summary

On the whole, we do feel that easyJet has some positive attributes. In particular, it's great to see that the company is investing heavily into its business and along with a moderate rate of return, that has resulted in a respectable growth in its earnings. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. 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. 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.