Declining Stock and Decent Financials: Is The Market Wrong About REACT Group PLC (LON:REAT)?

With its stock down 10% over the past three months, it is easy to disregard REACT Group (LON:REAT). 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. Specifically, we decided to study REACT Group's 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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for REACT Group

How Do You 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 REACT Group is:

0.6% = UK£50k ÷ UK£8.5m (Based on the trailing twelve months to September 2023).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.01 in profit.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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. 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.

A Side By Side comparison of REACT Group's Earnings Growth And 0.6% ROE

It is quite clear that REACT Group's ROE is rather low. Even compared to the average industry ROE of 11%, the company's ROE is quite dismal. In spite of this, REACT Group was able to grow its net income considerably, at a rate of 40% in the last five years. We reckon that there could 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.

Next, on comparing with the industry net income growth, we found that REACT Group's growth is quite high when compared to the industry average growth of 30% in the same period, which is great to see.

AIM:REAT Past Earnings Growth March 16th 2024

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. Is REACT Group fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is REACT Group Using Its Retained Earnings Effectively?

REACT Group doesn't pay any dividend currently which essentially means that it has been reinvesting all of its profits into the business. This definitely contributes to the high earnings growth number that we discussed above.

Conclusion

On the whole, we do feel that REACT Group has some positive attributes. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. You can see the 2 risks we have identified for REACT Group by visiting our risks dashboard for free on our platform here.

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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.