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It is hard to get excited after looking at Telecom Plus' (LON:TEP) recent performance, when its stock has declined 20% over the past three months. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. In this article, we decided to focus on Telecom Plus' ROE.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
How To Calculate Return On Equity?
Return on equity can be calculated by using the formula:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Telecom Plus is:
15% = UK£33m ÷ UK£212m (Based on the trailing twelve months to March 2021).
The 'return' is the yearly profit. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.15 in profit.
Why Is ROE Important For 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.
Telecom Plus' Earnings Growth And 15% ROE
To start with, Telecom Plus' ROE looks acceptable. On comparing with the average industry ROE of 10% the company's ROE looks pretty remarkable. This probably laid the ground for Telecom Plus' moderate 5.5% net income growth seen over the past five years.
We then compared Telecom Plus' 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 3.8% in the same period.
Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for TEP? You can find out in our latest intrinsic value infographic research report.
Is Telecom Plus Using Its Retained Earnings Effectively?
Telecom Plus has a very high three-year median payout ratio of 125% suggesting that the company's shareholders are getting paid from more than just the company's earnings. However, this hasn't really hampered its ability to grow as we saw earlier. Although, the high payout ratio is certainly something we would keep an eye on if the company is not able to keep up its growth, or if business deteriorates. You can see the 3 risks we have identified for Telecom Plus by visiting our risks dashboard for free on our platform here.
Besides, Telecom Plus has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 86% over the next three years.
Overall, we feel that Telecom Plus certainly does have some positive factors to consider. Namely, its high earnings growth, which was likely due to its high ROE. However, investors could have benefitted even more from the high ROE, had the company been reinvesting more of its earnings. As discussed earlier, the company is retaining hardly any of its profits. Up till now, we've only made a short study of the company's growth data. You can do your own research on Telecom Plus and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.
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.
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