Sanderson Design Group plc (LON:SDG) stock has shown weakness of late, but the financial outlook looks decent: Is the market wrong?

With stock down 16% over the past three months, it’s easy to disregard Sanderson Design Group (LON:SDG). But if you look closely, you might find that the top financial indicators are looking pretty decent, which could mean the stock could potentially go up over the long term, as markets typically reward more resilient long-term fundamentals. In particular, we decided to examine the ROE of the Sanderson Design Group in this article.

ROE, or return on equity, is a useful tool for assessing how effectively a company is generating returns on the investment received from its shareholders. In short, ROE shows the profit each dollar generates in relation to its shareholders’ investments.

Check out our latest analysis for Sanderson Design Group

How do you calculate return on equity?

That Formula for ROE is:

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

So, based on the formula above, the ROE for the Sanderson Design Group is:

9.7% = £7.8m ÷ £80m (based on trailing 12 months to January 2022).

The “return” is the profit of the last twelve months. So this means that for every £1 of investment by its shareholders, the company makes £0.10 of profit.

Why is ROE important for 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.

Sanderson Design Group earnings growth and 9.7% ROE

First of all, the ROE from the Sanderson Design Group looks acceptable. And comparing it to the industry, we found that the average industry ROE is similar at 12%. That’s why Sanderson Design Group’s five-year net income decline of 8.4% begs the question of why decent ROE didn’t translate to growth. We suspect there could be a few other factors at play here that are preventing the company from growing. For example, the company pays out a large part of its profits as dividends or is under competitive pressure.

Next, when we compared it to the industry, which shrank its earnings by 4.2% over the same period, we still found Sanderson Design Group’s performance to be quite dismal, given that the company has shrunk its earnings faster than the industry.

AIM:SDG Past Earnings Growth October 7, 2022

Much of the basis for increasing the value of a company is 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). This allows them to determine if the stock’s future looks bright or ominous. If you’re wondering about Sanderson Design Group’s valuation, check out this benchmark for price-to-earnings versus its industry.

Is Sanderson Design Group using its retained earnings effectively?

Sanderson Design Group’s low three-year median payout ratio of 14% (or a retention ratio of 86%) over the past three years should mean the company is retaining most of its earnings to fuel its growth, but the company’s earnings are real shrunk. The low payout should mean that the company will retain most of its profits and consequently should see some growth. So there could be other factors at play here that could potentially hamper growth. For example, the business has faced some headwinds.

Additionally, Sanderson Design Group has paid dividends for at least a decade, meaning the company’s management is committed to paying dividends even if it translates into little to no earnings growth. Studying the latest analyst consensus data, we found that the company’s future payout ratio is expected to increase to 28% over the next three years. Still, forecasts suggest that Sanderson Design Group’s future ROE will rise to 15%, although the company’s payout ratio is expected to increase. We suspect there could be some other characteristics of the business that could drive the company’s expected ROE growth.

summary

Overall, it looks like Sanderson Design Group has some positives in its business. However, we are disappointed to see a lack of earnings growth despite a high ROE and high reinvestment rate. We believe there could be some external factors that could negatively impact the business. Against this background, the latest forecasts from industry analysts show that the analysts expect a huge improvement in the company’s earnings growth rate. To learn more about the company’s future earnings growth projections, take a look free Report on analyst forecasts for the company to learn more.

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 Sanderson Design Group 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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About Nina Snider

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