Do Its Financials Have Any Role To Play In Driving TE Connectivity Ltd.'s (NYSE:TEL) Stock Up Recently?
TE Connectivity (NYSE:TEL) has had a great run on the share market with its stock up by a significant 12% over the last three months. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. Specifically, we decided to study TE Connectivity's ROE in this article.
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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
See our latest analysis for TE Connectivity
How Is ROE Calculated?
ROE 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 TE Connectivity is:
18% = US$2.1b ÷ US$11b (Based on the trailing twelve months to June 2023).
The 'return' is the income the business earned over the last year. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.18.
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. 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.
A Side By Side comparison of TE Connectivity's Earnings Growth And 18% ROE
To start with, TE Connectivity's ROE looks acceptable. On comparing with the average industry ROE of 12% the company's ROE looks pretty remarkable. Despite this, TE Connectivity's five year net income growth was quite flat over the past five years. Based on this, we feel that there might be other reasons which haven't been discussed so far in this article that could be hampering the company's growth. These include low earnings retention or poor allocation of capital.
As a next step, we compared TE Connectivity's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 15% in the same period.
Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. What is TEL worth today? The intrinsic value infographic in our free research report helps visualize whether TEL is currently mispriced by the market.
Is TE Connectivity Using Its Retained Earnings Effectively?
In spite of a normal three-year median payout ratio of 30% (or a retention ratio of 70%), TE Connectivity hasn't seen much growth in its earnings. Therefore, there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.
Moreover, TE Connectivity 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. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 27%. As a result, TE Connectivity's ROE is not expected to change by much either, which we inferred from the analyst estimate of 20% for future ROE.
Summary
Overall, we feel that TE Connectivity certainly does have some positive factors to consider. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its growth. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. 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.
