Are Strong Financial Prospects The Force That Is Driving The Momentum In TI Fluid Systems plc's LON:TIFS) Stock?
TI Fluid Systems''s (LON:TIFS) stock is up by a considerable 28% over the past month. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to TI Fluid Systems' ROE today.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
Check out our latest analysis for TI Fluid Systems
How Do You Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for TI Fluid Systems is:
12% = €145m ÷ €1.2b (Based on the trailing twelve months to December 2019).
The 'return' is the amount earned after tax over the last twelve months. So, this means that for every £1 of its shareholder's investments, the company generates a profit of £0.12.
What Is The Relationship Between ROE And Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.
TI Fluid Systems' Earnings Growth And 12% ROE
To begin with, TI Fluid Systems seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 9.7%. Probably as a result of this, TI Fluid Systems was able to see an impressive net income growth of 39% over the last five years. We reckon that there could also be other factors at play here. 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.
We then compared TI Fluid Systems' net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 32% in the same period.
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. This then helps them determine if the stock is placed for a bright or bleak future. Is TI Fluid Systems fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is TI Fluid Systems Making Efficient Use Of Its Profits?
TI Fluid Systems' three-year median payout ratio to shareholders is 24%, which is quite low. This implies that the company is retaining 76% of its profits. So it looks like TI Fluid Systems is reinvesting profits heavily to grow its business, which shows in its earnings growth.
Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 40% over the next three years. Despite the higher expected payout ratio, the company's ROE is not expected to change by much.
Summary
On the whole, we feel that TI Fluid Systems' performance has been quite good. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. Having said that, on studying current analyst estimates, we were concerned to see that while the company has grown its earnings in the past, analysts expect its earnings to shrink in the future. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.
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This article by Simply Wall St is general in nature. 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. Thank you for reading.
