Allergy Therapeutics plc's (LON:AGY) Stock Is Going Strong: Is the Market Following Fundamentals?
Allergy Therapeutics' (LON:AGY) stock is up by a considerable 14% over the past three months. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. In this article, we decided to focus on Allergy Therapeutics' ROE.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.
See our latest analysis for Allergy Therapeutics
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 Allergy Therapeutics is:
16% = UK£8.4m ÷ UK£51m (Based on the trailing twelve months to December 2019).
The 'return' is the profit over the last twelve months. So, this means that for every £1 of its shareholder's investments, the company generates a profit of £0.16.
What Has ROE Got To Do With 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 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.
Allergy Therapeutics' Earnings Growth And 16% ROE
To start with, Allergy Therapeutics' ROE looks acceptable. Further, the company's ROE compares quite favorably to the industry average of 12%. Probably as a result of this, Allergy Therapeutics was able to see an impressive net income growth of 25% over the last five years. We reckon that there could also be other factors at play here. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.
As a next step, we compared Allergy Therapeutics' net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 13%.
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. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Allergy Therapeutics''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Allergy Therapeutics Making Efficient Use Of Its Profits?
Allergy Therapeutics doesn't pay any dividend to its shareholders, meaning that the company has been reinvesting all of its profits into the business. This is likely what's driving the high earnings growth number discussed above.
Summary
In total, we are pretty happy with Allergy Therapeutics' 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. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink in the future. 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.
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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