Frontier Developments plc's (LON:FDEV) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?

editorial-team@simplywallst.com (Simply Wall St)

Mon, May 5, 2025, 12:50 AM 3 min read

With its stock down 12% over the past three months, it is easy to disregard Frontier Developments (LON:FDEV). However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on Frontier Developments' ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

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How To Calculate Return On Equity?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Frontier Developments is:

19% = UK£16m ÷ UK£82m (Based on the trailing twelve months to November 2024).

The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every £1 worth of equity, the company was able to earn £0.19 in profit.

Check out our latest analysis for Frontier Developments

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.

A Side By Side comparison of Frontier Developments' Earnings Growth And 19% ROE

To begin with, Frontier Developments seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 13%. As you might expect, the 47% net income decline reported by Frontier Developments is a bit of a surprise. Therefore, there might be some other aspects that could explain this. Such as, the company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.

So, as a next step, we compared Frontier Developments' 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 28% over the last few years.

past-earnings-growth — AIM:FDEV Past Earnings Growth May 5th 2025

Earnings growth is a huge factor in stock valuation. 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. If you're wondering about Frontier Developments''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Frontier Developments Making Efficient Use Of Its Profits?

Frontier Developments doesn't pay any regular dividends, meaning that potentially all of its profits are being reinvested in the business, which doesn't explain why the company's earnings have shrunk if it is retaining all of its profits. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Summary

On the whole, we do feel that Frontier Developments has some positive attributes. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return and is reinvesting ma huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that's preventing growth. In addition, on studying the latest analyst forecasts, we found that the company's earnings are expected to continue to shrink. 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.

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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.