Most readers would already be aware that Nexteer Automotive Group's (HKG:1316) stock increased significantly by 31% 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 Nexteer Automotive Group's ROE in this article.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.
How Is ROE Calculated?
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 Nexteer Automotive Group is:
3.7% = US$75m ÷ US$2.0b (Based on the trailing twelve months to December 2024).
The 'return' is the amount earned after tax over the last twelve months. So, this means that for every HK$1 of its shareholder's investments, the company generates a profit of HK$0.04.
View our latest analysis for Nexteer Automotive Group
Why Is ROE Important For 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. 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.
Nexteer Automotive Group's Earnings Growth And 3.7% ROE
It is hard to argue that Nexteer Automotive Group's ROE is much good in and of itself. Not just that, even compared to the industry average of 5.2%, the company's ROE is entirely unremarkable. For this reason, Nexteer Automotive Group's five year net income decline of 32% is not surprising given its lower ROE. We reckon that there could also be other factors at play here. For instance, the company has a very high payout ratio, or is faced with competitive pressures.
So, as a next step, we compared Nexteer Automotive Group's 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 19% over the last few years.
Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Nexteer Automotive Group fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Nexteer Automotive Group Making Efficient Use Of Its Profits?
When we piece together Nexteer Automotive Group's low three-year median payout ratio of 20% (where it is retaining 80% of its profits), calculated for the last three-year period, we are puzzled by the lack of growth. The low payout should mean that the company is retaining most of its earnings and consequently, should see some growth. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.
In addition, Nexteer Automotive Group has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 26% over the next three years. Still, forecasts suggest that Nexteer Automotive Group's future ROE will rise to 7.9% 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
On the whole, we feel that the performance shown by Nexteer Automotive Group can be open to many interpretations. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. 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 latest analysts predictions for the company, check out this visualization of analyst forecasts 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.