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With its stock down 26% over the past three months, it is easy to disregard Scott Technology (NZSE:SCT). However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Particularly, we will be paying attention to Scott Technology's ROE today.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
View our latest analysis for Scott Technology
How To 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 Scott Technology is:
11% = NZ$12m ÷ NZ$113m (Based on the trailing twelve months to February 2024).
The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every NZ$1 worth of equity, the company was able to earn NZ$0.11 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.
Scott Technology's Earnings Growth And 11% ROE
To begin with, Scott Technology seems to have a respectable ROE. Even when compared to the industry average of 13% the company's ROE looks quite decent. This probably goes some way in explaining Scott Technology's significant 33% net income growth over the past five years amongst other factors. We believe that there might also be other aspects that are positively influencing the company's earnings growth. For instance, the company has a low payout ratio or is being managed efficiently.
As a next step, we compared Scott Technology'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 30% in the same period.
Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. Is SCT fairly valued? This infographic on the company's intrinsic value has everything you need to know.