Declining Stock and Solid Fundamentals: Is The Market Wrong About London Security plc (LON:LSC)?

London Security (LON:LSC) has had a rough three months with its share price down 35%. However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. In this article, we decided to focus on London Security’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. Put another way, it reveals the company’s success at turning shareholder investments into profits.

Check out the opportunities and risks within the GB Machinery industry.

How Is ROE Calculated?

Tea formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders’ Equity

So, based on the above formula, the ROE for London Security is:

13% = UK£19m ÷ UK£141m (Based on the trailing twelve months to June 2022).

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 £0.13.

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.

London Security’s Earnings Growth And 13% ROE

At first glance, London Security seems to have a decent ROE. Even when compared to the industry average of 11% the company’s ROE looks quite decent. Consequently, this likely laid the ground for the decent growth of 7.8% seen over the past five years by London Security.

Next, on comparing with the industry net income growth, we found that London Security’s growth is quite high when compared to the industry average growth of 6.4% in the same period, which is great to see.

past-earnings-growth
AIM:LSC Past Earnings Growth November 25th 2022

Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company’s expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. Is London Security fairly valued compared to other companies? Thesis 3 valuation measures might help you decide.

Is London Security Making Efficient Use Of Its Profits?

London Security has a significant three-year median payout ratio of 51%, meaning that it is left with only 49% to reinvest into its business. This implies that the company has been able to achieve decent earnings growth despite returning most of its profits to shareholders.

Additionally, London Security has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders.

Conclusion

On the whole, we feel that London Security’s performance has been quite good. Especially the high ROE, Which has contributed to the impressive growth seen in earnings. Despite the company reinvesting only a small portion of its profits, it still has managed to grow its earnings so that is appreciable. So far, we’ve only made a quick discussion around the company’s earnings growth. You can do your own research on London Security and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.

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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.

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