Declining Stock and Decent Financials: Is The Market Wrong About BorgWarner Inc. (NYSE:BWA)?

By
Simply Wall St
Published
July 02, 2021
NYSE:BWA
Source: Shutterstock

It is hard to get excited after looking at BorgWarner's (NYSE:BWA) recent performance, when its stock has declined 7.2% over the past month. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. In this article, we decided to focus on BorgWarner's ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Put another way, it reveals the company's success at turning shareholder investments into profits.

Check out our latest analysis for BorgWarner

How Is ROE Calculated?

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 BorgWarner is:

7.9% = US$524m ÷ US$6.7b (Based on the trailing twelve months to March 2021).

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

What Is The Relationship Between ROE And 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.

BorgWarner's Earnings Growth And 7.9% ROE

At first glance, BorgWarner's ROE doesn't look very promising. Next, when compared to the average industry ROE of 12%, the company's ROE leaves us feeling even less enthusiastic. As a result, BorgWarner reported a very low income growth of 4.9% over the past five years.

As a next step, we compared BorgWarner'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 5.6% in the same period.

past-earnings-growth
NYSE:BWA Past Earnings Growth July 2nd 2021

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. Is BWA fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is BorgWarner Making Efficient Use Of Its Profits?

Despite having a moderate three-year median payout ratio of 25% (implying that the company retains the remaining 75% of its income), BorgWarner's earnings growth was quite low. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Additionally, BorgWarner has paid dividends over a period of eight years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 13% over the next three years. As a result, the expected drop in BorgWarner's payout ratio explains the anticipated rise in the company's future ROE to 16%, over the same period.

Summary

Overall, we feel that BorgWarner certainly does have some positive factors to consider. Namely, its respectable earnings growth, which it achieved due to it retaining most of its profits. However, given the low ROE, investors may not be benefitting from all that reinvestment after all. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. 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. 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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