Are Luxfer Holdings PLC's (NYSE:LXFR) Fundamentals Good Enough to Warrant Buying Given The Stock's Recent Weakness?
It is hard to get excited after looking at Luxfer Holdings' (NYSE:LXFR) recent performance, when its stock has declined 6.1% over the past week. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. Specifically, we decided to study Luxfer Holdings' ROE in this article.
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. Put another way, it reveals the company's success at turning shareholder investments into profits.
See our latest analysis for Luxfer Holdings
How Do You 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 Luxfer Holdings is:
18% = US$33m ÷ US$187m (Based on the trailing twelve months to September 2021).
The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.18 in profit.
What Has ROE Got To Do With Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.
Luxfer Holdings' Earnings Growth And 18% ROE
To start with, Luxfer Holdings' ROE looks acceptable. On comparing with the average industry ROE of 13% the company's ROE looks pretty remarkable. Yet, Luxfer Holdings has posted measly growth of 2.4% over the past five years. This is generally not the case as when a company has a high rate of return it should usually also have a high earnings growth rate. A few likely reasons why this could happen is that the company could have a high payout ratio or the business has allocated capital poorly, for instance.
Next, on comparing with the industry net income growth, we found that Luxfer Holdings' reported growth was lower than the industry growth of 8.5% in the same period, which is not something we like to see.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Luxfer Holdings is trading on a high P/E or a low P/E, relative to its industry.
Is Luxfer Holdings Making Efficient Use Of Its Profits?
The high three-year median payout ratio of 66% (that is, the company retains only 34% of its income) over the past three years for Luxfer Holdings suggests that the company's earnings growth was lower as a result of paying out a majority of its earnings.
In addition, Luxfer Holdings has been paying dividends over a period of four years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.
Conclusion
On the whole, we do feel that Luxfer Holdings has some positive attributes. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return. Investors could have benefitted from the high ROE, had the company been reinvesting more of its earnings. As discussed earlier, the company is retaining a small portion of its profits. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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. 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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