Is the Market Following Fundamentals?

Most readers would already be aware that Luceco’s (LON:LUCE) stock increased significantly by 9.6% over the past month. Given that the market rewards strong financials in the long term, we wonder if that is the case in this instance. In this article, we decided to focus on Luceco’s 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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company’s shareholders.

View our latest analysis for Luceco

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 Luceco is:

22% = UK£18m ÷ UK£83m (Based on the trailing twelve months to June 2022).

The ‘return’ refers to a company’s earnings over the last year. So, this means that for every £1 of its shareholder’s investments, the company generates a profit of £0.22.

Why Is ROE Important For Earnings Growth?

So far, we’ve learned that ROE is a measure of a company’s profitability. 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. 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.

Luceco’s Earnings Growth And 22% ROE

First thing first, we like that Luceco has an impressive ROE. Second, a comparison with the average ROE reported by the industry of 14% also doesn’t go unnoticed by us. So, the substantial 36% net income growth seen by Luceco over the past five years isn’t overly surprising.

Next, on comparing with the industry net income growth, we found that Luceco’s growth is quite high when compared to the industry average growth of 13% in the same period, which is great to see.

past-earnings-growth

past-earnings-growth

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company’s expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is LUCE fairly valued? This infographic on the company’s intrinsic value has everything you need to know.

Is Luceco Efficiently Reinvesting Its Profits?

The three-year median payout ratio for Luceco is 38%, which is moderately low. The company is retaining the remaining 62%. By the looks of it, the dividend is well covered and Luceco is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.

Moreover, Luceco is determined to keep sharing its profits with shareholders which we infer from its long history of six years of paying a dividend. Upon studying the latest analysts’ consensus data, we found that the company is expected to keep paying out approximately 41% of its profits over the next three years.

Conclusion

In total, we are pretty happy with Luceco’s performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. With that said, the latest industry analyst forecasts reveal that the company’s earnings growth is expected to slow down. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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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