Yahoo Finance ITV plc's (LON:ITV) Has Had A Decent Run On The Stock market: Are Fundamentals In The Driver's Seat?
ITV's (LON:ITV) stock is up by 6.0% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to investigate if the company's decent financials had a hand to play in the recent price move. Particularly, we will be paying attention to ITV's ROE today.
ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
Check out our latest analysis for ITV
How To Calculate Return On Equity?
ROE 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 ITV is:
16% = UK£282m ÷ UK£1.8b (Based on the trailing twelve months to June 2023).
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 £0.16.
Why Is ROE Important For Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. 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.
ITV's Earnings Growth And 16% ROE
To start with, ITV's ROE looks acceptable. On comparing with the average industry ROE of 9.2% the company's ROE looks pretty remarkable. Needless to say, we are quite surprised to see that ITV's net income shrunk at a rate of 3.7% over the past five years. Therefore, there might be some other aspects that could explain this. These include low earnings retention or poor allocation of capital.
So, as a next step, we compared ITV's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 18% over the last few years.
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. 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 ITV is trading on a high P/E or a low P/E, relative to its industry.
Is ITV Making Efficient Use Of Its Profits?
In spite of a normal three-year median payout ratio of 42% (that is, a retention ratio of 58%), the fact that ITV's earnings have shrunk is quite puzzling. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.
Additionally, ITV has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Looking at the current analyst consensus data, we can see that the company's future payout ratio is expected to rise to 52% over the next three years. Regardless, the future ROE for ITV is speculated to rise to 21% despite the anticipated increase in the payout ratio. There could probably be other factors that could be driving the future growth in the ROE.
Conclusion
On the whole, we do feel that ITV has some positive attributes. Although, we are disappointed to see a lack of growth in earnings even in spite of a high ROE and and a high reinvestment rate. We believe that there might be some outside factors that could be having a negative impact on the business. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings 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.
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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.
