Is Weakness In Theon International Plc (AMS:THEON) Stock A Sign That The Market Could be Wrong Given Its Strong Financial Prospects?

With its stock down 24% over the past three months, it is easy to disregard Theon International (AMS:THEON). However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Theon International's ROE.

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 Theon International

How To 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 Theon International is:

25% = €46m ÷ €184m (Based on the trailing twelve months to March 2024).

The 'return' is the amount earned after tax over the last twelve months. So, this means that for every €1 of its shareholder's investments, the company generates a profit of €0.25.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

A Side By Side comparison of Theon International's Earnings Growth And 25% ROE

First thing first, we like that Theon International has an impressive ROE. Secondly, even when compared to the industry average of 14% the company's ROE is quite impressive. Under the circumstances, Theon International's considerable five year net income growth of 40% was to be expected.

As a next step, we compared Theon International's 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 17%.

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

Is Theon International Efficiently Re-investing Its Profits?

Theon International's three-year median payout ratio is a pretty moderate 34%, meaning the company retains 66% of its income. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like Theon International is reinvesting its earnings efficiently.

Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 34%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 24%.

Conclusion

In total, we are pretty happy with Theon International'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. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.