Could The Market Be Wrong About Textron Inc. (NYSE:TXT) Given Its Attractive Financial Prospects?

With its stock down 3.9% over the past month, it is easy to disregard Textron (NYSE:TXT). But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Specifically, we decided to study Textron's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Textron

How Do You Calculate Return On Equity?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Textron is:

13% = US$883m ÷ US$7.0b (Based on the trailing twelve months to September 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 $0.13.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

A Side By Side comparison of Textron's Earnings Growth And 13% ROE

To start with, Textron's ROE looks acceptable. Even when compared to the industry average of 13% the company's ROE looks quite decent. This probably goes some way in explaining Textron's moderate 11% growth over the past five years amongst other factors.

Next, on comparing with the industry net income growth, we found that Textron's growth is quite high when compared to the industry average growth of 8.8% in the same period, which is great to see.

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). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. What is TXT worth today? The intrinsic value infographic in our free research report helps visualize whether TXT is currently mispriced by the market.

Is Textron Making Efficient Use Of Its Profits?

In Textron's case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 2.0% (or a retention ratio of 98%), which suggests that the company is investing most of its profits to grow its business.

Besides, Textron has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 1.8%. Still, forecasts suggest that Textron's future ROE will rise to 18% even though the the company's payout ratio is not expected to change by much.

Conclusion

In total, we are pretty happy with Textron's performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. On studying current analyst estimates, we found that analysts expect the company to continue its recent growth streak. 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.