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Most readers would already be aware that Bodycote's (LON:BOY) stock increased significantly by 29% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Particularly, we will be paying attention to Bodycote's ROE today.
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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
See our latest analysis for Bodycote
How Do You 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 Bodycote is:
6.1% = UK£45m ÷ UK£732m (Based on the trailing twelve months to June 2020).
The 'return' is the yearly profit. Another way to think of that is that for every £1 worth of equity, the company was able to earn £0.06 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. 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. 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.
A Side By Side comparison of Bodycote's Earnings Growth And 6.1% ROE
When you first look at it, Bodycote's ROE doesn't look that attractive. Next, when compared to the average industry ROE of 10.0%, the company's ROE leaves us feeling even less enthusiastic. Although, we can see that Bodycote saw a modest net income growth of 7.4% over the past five years. So, there might be other aspects that are positively influencing the company's earnings growth. Such as - high earnings retention or an efficient management in place.
We then performed a comparison between Bodycote's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 8.0% in the same period.
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). Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for BOY? You can find out in our latest intrinsic value infographic research report.