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Most readers would already be aware that Haleon's (LON:HLN) stock increased significantly by 13% over the past month. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. Specifically, we decided to study Haleon's 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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
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 Haleon is:
9.1% = UK£1.5b ÷ UK£16b (Based on the trailing twelve months to December 2024).
The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.09 in profit.
View our latest analysis for Haleon
What Has ROE Got To Do With Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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. 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.
Haleon's Earnings Growth And 9.1% ROE
On the face of it, Haleon's ROE is not much to talk about. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 12%. Accordingly, Haleon's low net income growth of 3.7% over the past five years can possibly be explained by the low ROE amongst other factors.
We then compared Haleon's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 7.7% in the same 5-year period, which is a bit concerning.
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. Has the market priced in the future outlook for HLN? You can find out in our latest intrinsic value infographic research report.