Barratt Developments plc's (LON:BDEV) On An Uptrend But Financial Prospects Look Pretty Weak: Is The Stock Overpriced?
Barratt Developments' (LON:BDEV) stock is up by a considerable 26% over the past month. However, we decided to pay close attention to its weak financials as we are doubtful that the current momentum will keep up, given the scenario. Particularly, we will be paying attention to Barratt Developments' ROE today.
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.
Check out our latest analysis for Barratt Developments
How To Calculate Return On Equity?
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 Barratt Developments is:
9.5% = UK£530m ÷ UK£5.6b (Based on the trailing twelve months to June 2023).
The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every £1 worth of equity, the company was able to earn £0.09 in profit.
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. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.
Barratt Developments' Earnings Growth And 9.5% ROE
When you first look at it, Barratt Developments' ROE doesn't look that attractive. Yet, a closer study shows that the company's ROE is similar to the industry average of 10%. But then again, Barratt Developments' five year net income shrunk at a rate of 6.4%. Remember, the company's ROE is a bit low to begin with. Therefore, the decline in earnings could also be the result of this.
As a next step, we compared Barratt Developments' performance with the industry and found thatBarratt Developments' performance is depressing even when compared with the industry, which has shrunk its earnings at a rate of 3.6% in the same period, which is a slower than the company.
Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Barratt Developments''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Barratt Developments Efficiently Re-investing Its Profits?
With a high three-year median payout ratio of 56% (implying that 44% of the profits are retained), most of Barratt Developments' profits are being paid to shareholders, which explains the company's shrinking earnings. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. You can see the 2 risks we have identified for Barratt Developments by visiting our risks dashboard for free on our platform here.
Moreover, Barratt Developments has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 60%. Regardless, Barratt Developments' ROE is speculated to decline to 7.4% despite there being no anticipated change in its payout ratio.
Summary
On the whole, Barratt Developments' performance is quite a big let-down. Because the company is not reinvesting much into the business, and given the low ROE, it's not surprising to see the lack or absence of growth in its earnings. Having said that, we studied the latest analyst forecasts, and found that analysts are expecting the company's earnings growth to improve slightly. This could offer some relief to the company's existing shareholders. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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.
