Do Fundamentals Have Any Role To Play In Driving BorgWarner Inc.'s (NYSE:BWA) Stock Up Recently?
BorgWarner's (NYSE:BWA) stock is up by 9.4% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to investigate if the company's decent financials had a hand to play in the recent price move. Particularly, we will be paying attention to BorgWarner's ROE today.
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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.
See our latest analysis for BorgWarner
How Is ROE Calculated?
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 BorgWarner is:
10% = US$726m ÷ US$7.2b (Based on the trailing twelve months to June 2022).
The 'return' is the profit over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.10 in profit.
What Is The Relationship Between ROE And Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
BorgWarner's Earnings Growth And 10% ROE
At first glance, BorgWarner seems to have a decent ROE. Even so, when compared with the average industry ROE of 14%, we aren't very excited. However, the moderate 6.7% net income growth seen by BorgWarner over the past five years is definitely a positive. So, there might be other aspects that are positively influencing earnings growth. 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. Bear in mind, the company does have a respectable level of ROE. It is just that the industry ROE is higher. So this also does lend some color to the fairly high earnings growth seen by the company.
Next, on comparing with the industry net income growth, we found that BorgWarner's reported growth was lower than the industry growth of 12% in the same period, which is not something we like to see.
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 BorgWarner's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is BorgWarner Efficiently Re-investing Its Profits?
BorgWarner has a low three-year median payout ratio of 24%, meaning that the company retains the remaining 76% of its profits. This suggests that the management is reinvesting most of the profits to grow the business.
Additionally, BorgWarner has paid dividends over a period of nine years which means that the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 12% over the next three years. The fact that the company's ROE is expected to rise to 15% over the same period is explained by the drop in the payout ratio.
Summary
Overall, we feel that BorgWarner certainly does have some positive factors to consider. Particularly, its earnings have grown respectably as we saw earlier, which was likely achieved due to the company reinvesting most of its earnings at a decent rate of return, to grow its business. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.
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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.
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