Most readers would already be aware that nVent Electric's (NYSE:NVT) stock increased significantly by 23% over the past three months. Since the market usually pay for a company’s long-term fundamentals, we decided to study the company’s key performance indicators to see if they could be influencing the market. Specifically, we decided to study nVent Electric's ROE in this article.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for nVent Electric

How To Calculate Return On Equity?

The formula for ROE is:

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

So, based on the above formula, the ROE for nVent Electric is:

16% = US$471m ÷ US$2.9b (Based on the trailing twelve months to September 2023).

The 'return' refers to a company's earnings over the last year. That means that for every $1 worth of shareholders' equity, the company generated $0.16 in profit.

Why Is ROE Important For 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.

nVent Electric's Earnings Growth And 16% ROE

At first glance, nVent Electric seems to have a decent ROE. Even when compared to the industry average of 15% the company's ROE looks quite decent. This certainly adds some context to nVent Electric's moderate 18% net income growth seen over the past five years.

Next, on comparing with the industry net income growth, we found that nVent Electric's growth is quite high when compared to the industry average growth of 9.9% 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. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if nVent Electric is trading on a high P/E or a low P/E, relative to its industry.

Is nVent Electric Making Efficient Use Of Its Profits?

With a three-year median payout ratio of 29% (implying that the company retains 71% of its profits), it seems that nVent Electric is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Moreover, nVent Electric is determined to keep sharing its profits with shareholders which we infer from its long history of six years of paying a dividend. 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 24%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 16%.

Summary

Overall, we are quite pleased with nVent Electric's performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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.