Are Strong Financial Prospects The Force That Is Driving The Momentum In Leonardo S.p.a.'s BIT:LDO) Stock?

Most readers would already be aware that Leonardo's (BIT:LDO) stock increased significantly by 18% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to Leonardo's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Leonardo

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 Leonardo is:

11% = €873m ÷ €7.9b (Based on the trailing twelve months to June 2023).

The 'return' refers to a company's earnings over the last year. That means that for every €1 worth of shareholders' equity, the company generated €0.11 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.

Leonardo's Earnings Growth And 11% ROE

To start with, Leonardo's ROE looks acceptable. Even when compared to the industry average of 9.8% the company's ROE looks quite decent. Consequently, this likely laid the ground for the decent growth of 18% seen over the past five years by Leonardo.

We then compared Leonardo'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 14% in the same 5-year period.

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. Doing so will help them establish if the stock's future looks promising or ominous. What is LDO worth today? The intrinsic value infographic in our free research report helps visualize whether LDO is currently mispriced by the market.

Is Leonardo Making Efficient Use Of Its Profits?

Leonardo has a low three-year median payout ratio of 12%, meaning that the company retains the remaining 88% of its profits. This suggests that the management is reinvesting most of the profits to grow the business.

Moreover, Leonardo is determined to keep sharing its profits with shareholders which we infer from its long history of six years of paying a dividend. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 9.8% of its profits over the next three years. As a result, Leonardo's ROE is not expected to change by much either, which we inferred from the analyst estimate of 11% for future ROE.

Summary

Overall, we are quite pleased with Leonardo's performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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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.