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Severfield's (LON:SFR) stock is up by a considerable 46% over the past three months. We, however wanted to have a closer look at its key financial indicators as the markets usually pay for long-term fundamentals, and in this case, they don't look very promising. Specifically, we decided to study Severfield's ROE in this article.
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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
See our latest analysis for Severfield
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 Severfield is:
7.2% = UK£16m ÷ UK£221m (Based on the trailing twelve months to March 2024).
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 £0.07 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. 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.
Severfield's Earnings Growth And 7.2% ROE
On the face of it, Severfield's ROE is not much to talk about. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 11% either. As a result, Severfield's flat net income growth over the past five years doesn't come as a surprise given its lower ROE.
Next, on comparing with the industry net income growth, we found that Severfield's reported growth was lower than the industry growth of 11% over the last few years, which is not something we like to see.
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. Has the market priced in the future outlook for SFR? You can find out in our latest intrinsic value infographic research report.