Is BAE Systems plc (LON:BA.)’s recent stock performance a reflection of its financial health?

BAE Systems (LON:BA.) has had a great run in the stock market, with the stock up a whopping 7.5% over the past month. Given the company’s impressive performance, we decided to take a closer look at its financial metrics, as a company’s long-term financial health typically drives market results. Today we will pay special attention to the ROE of BAE Systems.

Return on Equity, or ROE, is a key metric used to assess how efficiently a company’s management is using the company’s capital. Put simply, it measures a company’s profitability in relation to its equity.

Check out our latest analysis for BAE Systems

How do you calculate return on equity?

The ROE can be calculated using the following formula:

Return on Equity = Net Income (from continuing operations) ÷ Equity

So, based on the formula above, the ROE for BAE Systems is:

13% = £1.5bn ÷ £12bn (based on trailing 12 months to June 2022).

“Yield” refers to a company’s profits over the past year. So this means that for every £1 of investment by its shareholders, the company makes £0.13 of profit.

What is the relationship between ROE and earnings growth?

So far we’ve learned that ROE measures how efficiently a company generates its profits. Based on how much of its profits the company reinvests, or “retains,” we are then able to assess a company’s future ability to generate profits. Assuming all else being equal, companies that demonstrate both higher return on equity and higher earnings retention tend to be those that exhibit a higher growth rate than companies that do not share the same characteristics.

BAE Systems earnings growth and 13% ROE

At first glance, BAE Systems appears to have a decent ROE. Even compared to the industry average of 12%, the company’s ROE looks pretty decent. That certainly lends some context to BAE Systems’ modest 14% net earnings growth over the past five years.

Considering that industry earnings shrank 7.9% over the same period, the company’s net earnings growth is quite remarkable.

LSE: BA. Past Earnings Growth October 9, 2022

Much of the basis for increasing the value of a company is tied to its earnings growth. Next, investors need to determine whether expected earnings growth, or lack of it, is already embedded in the stock price. This then helps them determine if the stock is placed for a bright or bleak future. What is BA. worth today? The intrinsic value infographic in our free research report helps visualize whether BA. is currently misvalued by the market.

Is BAE Systems efficiently reinvesting its profits?

While BAE Systems has a three-year average payout ratio of 52% (which means 48% of earnings are retained), the company has still had good earnings growth historically, meaning its high payout ratio hasn’t hampered its ability to to grow.

Also, BAE Systems has been paying dividends for at least ten years. This shows that the company has an obligation to share profits with its shareholders. Our latest analyst data shows that the company’s future payout ratio is expected to be around 49% over the next three years. However, BAE Systems’ ROE is expected to increase to 22%, although no change in the payout ratio is expected.

summary

Overall, we think the performance of BAE Systems is quite good. Most notably, the high ROE that has contributed to the impressive earnings growth. Although the company only reinvests a small portion of its profits, it has still managed to increase its profits enough to be felt. Against this backdrop, the latest forecasts from industry analysts indicate that the company’s earnings growth is likely to slow. To learn more about the latest analyst forecasts for the company, check out this visualization of analyst forecasts for the company.

This Simply Wall St article is of a general nature. We provide comments based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended as financial advice. It is not a recommendation to buy or sell any stock and does not take into account your goals or financial situation. Our goal is to offer you long-term focused analysis based on fundamental data. Note that our analysis may not take into account the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any of the stocks mentioned.

The assessment is complex, but we help to simplify it.

find out if BAE systems may be over or under priced by reviewing our comprehensive analysis which includes the following Fair Value Estimates, Risks and Warnings, Dividends, Insider Trading and Financial Health.

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