QinetiQ Group plc's (LON:QQ.) Stock Has Shown Weakness Lately But Financial Prospects Look Decent: Is The Market Wrong?

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With its stock down 22% over the past three months, it is easy to disregard QinetiQ Group (LON:QQ.). But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. In this article, we decided to focus on QinetiQ Group’s ROE.

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.

See our latest analysis for QinetiQ Group

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 QinetiQ Group is:

14% = UK£125m ÷ UK£890m (Based on the trailing twelve months to March 2021).

The ‘return’ is the income the business earned over the last year. So, this means that for every £1 of its shareholder’s investments, the company generates a profit of £0.14.

What Is The Relationship Between ROE And 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. 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.

QinetiQ Group’s Earnings Growth And 14% ROE

At first glance, QinetiQ Group seems to have a decent ROE. On comparing with the average industry ROE of 9.1% the company’s ROE looks pretty remarkable. However, we are curious as to how the high returns still resulted in flat growth for QinetiQ Group in the past five years. We reckon that there could be some other factors at play here that’s limiting the company’s growth. These include low earnings retention or poor allocation of capital.

As a next step, we compared QinetiQ Group’s net income growth with the industry and were disappointed to see that the company’s growth is lower than the industry average growth of 4.6% in the same period.

past-earnings-growth

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. Is QinetiQ Group fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is QinetiQ Group Efficiently Re-investing Its Profits?

Despite having a normal three-year median payout ratio of 32% (implying that the company keeps 68% of its income) over the last three years, QinetiQ Group has seen a negligible amount of growth in earnings as we saw above. Therefore, there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Additionally, QinetiQ Group has paid dividends over a period of at least ten years, which means that the company’s management is determined to pay dividends even if it means little to no 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 33%. Therefore, the company’s future ROE is also not expected to change by much with analysts predicting an ROE of 14%.

Summary

Overall, we feel that QinetiQ Group certainly does have some positive factors to consider. Although, we are disappointed to see a lack of growth in earnings even in spite of a high ROE and and a high reinvestment rate. We believe that there might be some outside factors that could be having a negative impact on the business. With that said, the latest industry analyst forecasts reveal that the company’s earnings are expected to accelerate. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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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