The Vitec Group plc's (LON:VTC) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?

Simply Wall St

Mon, Apr 11, 2022, 12:10 AM 4 min read

Most readers would already be aware that Vitec Group's (LON:VTC) stock increased significantly by 18% over the past month. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. Particularly, we will be paying attention to Vitec Group's ROE today.

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.

See our latest analysis for Vitec Group

How Do You 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 Vitec Group is:

15% = UK£26m ÷ UK£174m (Based on the trailing twelve months to December 2021).

The 'return' is the yearly profit. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.15 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. 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 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.

Vitec Group's Earnings Growth And 15% ROE

To start with, Vitec Group's ROE looks acceptable. Further, the company's ROE compares quite favorably to the industry average of 11%. As you might expect, the 15% net income decline reported by Vitec Group is a bit of a surprise. We reckon that there could be some other factors at play here that are preventing the company's growth. These include low earnings retention or poor allocation of capital.

Next, when we compared with the industry, which has shrunk its earnings at a rate of 8.2% in the same period, we still found Vitec Group's performance to be quite bleak, because the company has been shrinking its earnings faster than the industry.

past-earnings-growth — LSE:VTC Past Earnings Growth April 11th 2022

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. Is VTC fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Vitec Group Efficiently Re-investing Its Profits?

Looking at its three-year median payout ratio of 46% (or a retention ratio of 54%) which is pretty normal, Vitec Group's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion 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.

Moreover, Vitec Group has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. 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 42%. However, Vitec Group's ROE is predicted to rise to 21% despite there being no anticipated change in its payout ratio.

Conclusion

In total, it does look like Vitec Group has some positive aspects to its business. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its growth. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. 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.