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Are Strong Financial Prospects The Force That Is Driving The Momentum In Bravura Solutions Limited's ASX:BVS) Stock?

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Most readers would already be aware that Bravura Solutions' (ASX:BVS) stock increased significantly by 28% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Specifically, we decided to study Bravura Solutions' ROE in this article.

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.

View our latest analysis for Bravura Solutions

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 Bravura Solutions is:

12% = AU$36m ÷ AU$304m (Based on the trailing twelve months to December 2019).

The 'return' refers to a company's earnings over the last year. So, this means that for every A$1 of its shareholder's investments, the company generates a profit of A$0.12.

Why Is ROE Important For Earnings Growth?

Thus far, we have learnt that ROE measures how efficiently a company is generating its profits. 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 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.

Bravura Solutions' Earnings Growth And 12% ROE

At first glance, Bravura Solutions seems to have a decent ROE. Even when compared to the industry average of 14% the company's ROE looks quite decent. This probably goes some way in explaining Bravura Solutions' significant 79% net income growth over the past five years amongst other factors. However, there could also be other drivers behind this 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.

We then compared Bravura Solutions' 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 14% in the same period.

ASX:BVS Past Earnings Growth July 4th 2020
ASX:BVS Past Earnings Growth July 4th 2020

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. 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 Bravura Solutions is trading on a high P/E or a low P/E, relative to its industry.

Is Bravura Solutions Making Efficient Use Of Its Profits?

Bravura Solutions has a significant three-year median payout ratio of 70%, meaning the company only retains 30% of its income. This implies that the company has been able to achieve high earnings growth despite returning most of its profits to shareholders.

Additionally, Bravura Solutions has paid dividends over a period of three 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 over the next three years is expected to be approximately 67%. However, Bravura Solutions' ROE is predicted to rise to 15% despite there being no anticipated change in its payout ratio.

Conclusion

In total, we are pretty happy with Bravura Solutions' performance. Especially the high ROE, Which has contributed to the impressive growth seen in earnings. Despite the company reinvesting only a small portion of its profits, it still has managed to grow its earnings so that is appreciable. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.