Seeka Limited's (NZSE:SEK) Stock On An Uptrend: Could Fundamentals Be Driving The Momentum?

Seeka (NZSE:SEK) has had a great run on the share market with its stock up by a significant 21% over the last month. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. In this article, we decided to focus on Seeka'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.

View our latest analysis for Seeka

How Do You Calculate Return On Equity?

Return on equity 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 Seeka is:

7.7% = NZ$13m ÷ NZ$174m (Based on the trailing twelve months to June 2020).

The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every NZ$1 worth of equity, the company was able to earn NZ$0.08 in profit.

What Has ROE Got To Do With 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. 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.

Seeka's Earnings Growth And 7.7% ROE

On the face of it, Seeka's ROE is not much to talk about. Yet, a closer study shows that the company's ROE is similar to the industry average of 7.7%. Even so, Seeka has shown a fairly decent growth in its net income which grew at a rate of 6.9%. Taking into consideration that the ROE is not particularly high, we reckon that there could also be other factors at play which could be influencing the company's growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

As a next step, we compared Seeka's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 6.9% in the same period.

Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. 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 Seeka is trading on a high P/E or a low P/E, relative to its industry.

Is Seeka Efficiently Re-investing Its Profits?

While Seeka has a three-year median payout ratio of 66% (which means it retains 34% of profits), the company has still seen a fair bit of earnings growth in the past, meaning that its high payout ratio hasn't hampered its ability to grow.

Moreover, Seeka 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. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 105% over the next three years. Consequently, the higher expected payout ratio explains the decline in the company's expected ROE (to 6.0%) over the same period.

Conclusion

In total, it does look like Seeka has some positive aspects to its business. Namely, its high earnings growth. We do however feel that the earnings growth number could have been even higher, had the company been reinvesting more of its earnings and paid out less dividends. With that said, on studying the latest analyst forecasts, we found that while the company has seen growth in its past earnings, analysts expect its future earnings to shrink. 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. 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.
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