Most readers would already know that Watts Water Technologies' (NYSE:WTS) stock increased by 4.8% over the past month. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Specifically, we decided to study Watts Water Technologies' ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Watts Water Technologies

How Is ROE Calculated?

ROE 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 Watts Water Technologies is:

17% = US$276m ÷ US$1.6b (Based on the trailing twelve months to June 2024).

The 'return' is the yearly profit. That means that for every $1 worth of shareholders' equity, the company generated $0.17 in profit.

What Is The Relationship Between ROE And Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.

A Side By Side comparison of Watts Water Technologies' Earnings Growth And 17% ROE

At first glance, Watts Water Technologies seems to have a decent ROE. Even when compared to the industry average of 15% the company's ROE looks quite decent. Consequently, this likely laid the ground for the impressive net income growth of 20% seen over the past five years by Watts Water Technologies. However, there could also be other drivers behind this growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

Next, on comparing with the industry net income growth, we found that Watts Water Technologies' growth is quite high when compared to the industry average growth of 11% in the same period, which is great to see.

Earnings growth is a huge factor in stock valuation. 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. Has the market priced in the future outlook for WTS? You can find out in our latest intrinsic value infographic research report.

Is Watts Water Technologies Efficiently Re-investing Its Profits?

Watts Water Technologies' ' three-year median payout ratio is on the lower side at 17% implying that it is retaining a higher percentage (83%) of its profits. So it looks like Watts Water Technologies is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Moreover, Watts Water Technologies is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 17%.

Summary

On the whole, we feel that Watts Water Technologies' performance has been quite good. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.