Are Robust Financials Driving The Recent Rally In Eltek Ltd.'s (NASDAQ:ELTK) Stock?
Eltek's (NASDAQ:ELTK) stock is up by a considerable 12% over the past week. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. In this article, we decided to focus on Eltek's 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 Eltek
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 Eltek is:
26% = US$5.3m ÷ US$20m (Based on the trailing twelve months to June 2022).
The 'return' is the amount earned after tax over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.26 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. 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. 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.
A Side By Side comparison of Eltek's Earnings Growth And 26% ROE
To begin with, Eltek has a pretty high ROE which is interesting. Secondly, even when compared to the industry average of 14% the company's ROE is quite impressive. Under the circumstances, Eltek's considerable five year net income growth of 72% was to be expected.
Next, on comparing with the industry net income growth, we found that Eltek's growth is quite high when compared to the industry average growth of 18% in the same period, which is great 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. If you're wondering about Eltek's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Eltek Using Its Retained Earnings Effectively?
Given that Eltek doesn't pay any dividend to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.
Summary
In total, we are pretty happy with Eltek's performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. To know the 2 risks we have identified for Eltek visit our risks dashboard for free.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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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