Yahoo Finance Has Smart Metering Systems plc's (LON:SMS) Impressive Stock Performance Got Anything to Do With Its Fundamentals?
Smart Metering Systems (LON:SMS) has had a great run on the share market with its stock up by a significant 21% over the last three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Specifically, we decided to study Smart Metering Systems' ROE in this article.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.
See our latest analysis for Smart Metering Systems
How Is ROE Calculated?
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 Smart Metering Systems is:
1.4% = UK£7.3m ÷ UK£532m (Based on the trailing twelve months to June 2022).
The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.01 in profit.
What Is The Relationship Between ROE And Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.
A Side By Side comparison of Smart Metering Systems' Earnings Growth And 1.4% ROE
It is quite clear that Smart Metering Systems' ROE is rather low. Not just that, even compared to the industry average of 7.8%, the company's ROE is entirely unremarkable. Despite this, surprisingly, Smart Metering Systems saw an exceptional 22% net income growth over the past five years. Therefore, there could be other reasons 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.
Given that the industry shrunk its earnings at a rate of 0.7% in the same period, the net income growth of the company is quite impressive.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. Is Smart Metering Systems fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Smart Metering Systems Using Its Retained Earnings Effectively?
Smart Metering Systems has a really low three-year median payout ratio of 16%, meaning that it has the remaining 84% left over to reinvest into its business. So it seems like the management is reinvesting profits heavily to grow its business and this reflects in its earnings growth number.
Additionally, Smart Metering Systems 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. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 196% over the next three years. Still, forecasts suggest that Smart Metering Systems' future ROE will rise to 5.5% even though the the company's payout ratio is expected to rise. We presume that there could some other characteristics of the business that could be driving the anticipated growth in the company's ROE.
Conclusion
Overall, we feel that Smart Metering Systems certainly does have some positive factors to consider. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. The latest industry analyst forecasts show that the company is expected to maintain its current growth rate. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
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