Is FirstGroup plc's (LON:FGP) Latest Stock Performance A Reflection Of Its Financial Health?

FirstGroup's (LON:FGP) stock is up by a considerable 13% over the past three months. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. In this article, we decided to focus on FirstGroup's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for FirstGroup

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 FirstGroup is:

14% = UK£100m ÷ UK£701m (Based on the trailing twelve months to September 2024).

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 £0.14.

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. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

FirstGroup's Earnings Growth And 14% ROE

At first glance, FirstGroup seems to have a decent ROE. Especially when compared to the industry average of 11% the company's ROE looks pretty impressive. This certainly adds some context to FirstGroup's exceptional 76% net income growth seen over the past five years. However, there could also be other causes behind this growth. Such as - high earnings retention or an efficient management in place.

We then compared FirstGroup's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 31% in the same 5-year period.

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). 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 FirstGroup is trading on a high P/E or a low P/E, relative to its industry.

Is FirstGroup Making Efficient Use Of Its Profits?

FirstGroup's three-year median payout ratio is a pretty moderate 36%, meaning the company retains 64% of its income. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like FirstGroup is reinvesting its earnings efficiently.

Besides, FirstGroup has been paying dividends over a period of three years. This shows that the company is committed to sharing profits with its shareholders. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 33% of its profits over the next three years. As a result, FirstGroup's ROE is not expected to change by much either, which we inferred from the analyst estimate of 16% for future ROE.

Summary

Overall, we are quite pleased with FirstGroup's performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. 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. 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.