Yahoo Finance Are Strong Financial Prospects The Force That Is Driving The Momentum In Halma plc's LON:HLMA) Stock?
Most readers would already be aware that Halma's (LON:HLMA) stock increased significantly by 8.0% 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. Specifically, we decided to study Halma'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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
View our latest analysis for Halma
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 Halma is:
16% = UK£177m ÷ UK£1.1b (Based on the trailing twelve months to September 2020).
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 £0.16 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 Halma's Earnings Growth And 16% ROE
To begin with, Halma seems to have a respectable ROE. On comparing with the average industry ROE of 8.6% the company's ROE looks pretty remarkable. This certainly adds some context to Halma's decent 12% net income growth seen over the past five years.
We then compared Halma's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 18% in the same period, which is a bit concerning.
Earnings growth is a huge factor in stock valuation. 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. 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 Halma is trading on a high P/E or a low P/E, relative to its industry.
Is Halma Using Its Retained Earnings Effectively?
Halma has a healthy combination of a moderate three-year median payout ratio of 35% (or a retention ratio of 65%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.
Additionally, Halma has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 31%. Accordingly, forecasts suggest that Halma's future ROE will be 17% which is again, similar to the current ROE.
Conclusion
In total, we are pretty happy with Halma's performance. 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 a good amount of growth in its earnings. We also studied the latest analyst forecasts and found that the company's earnings growth is expected be similar to its current growth rate. 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.
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