Should Weakness in Kratos Defense & Security Solutions, Inc.'s (NASDAQ:KTOS) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

·3 min read

Kratos Defense & Security Solutions (NASDAQ:KTOS) has had a rough three months with its share price down 12%. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. In this article, we decided to focus on Kratos Defense & Security Solutions' ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Kratos Defense & Security Solutions

How To Calculate Return On Equity?

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 Kratos Defense & Security Solutions is:

8.8% = US$84m ÷ US$951m (Based on the trailing twelve months to June 2021).

The 'return' is the income the business earned over the last year. That means that for every $1 worth of shareholders' equity, the company generated $0.09 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. 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.

Kratos Defense & Security Solutions' Earnings Growth And 8.8% ROE

When you first look at it, Kratos Defense & Security Solutions' ROE doesn't look that attractive. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 13% either. However, we we're pleasantly surprised to see that Kratos Defense & Security Solutions grew its net income at a significant rate of 74% in the last five years. So, there might be other aspects that are positively influencing the company's earnings growth. For instance, the company has a low payout ratio or is being managed efficiently.

As a next step, we compared Kratos Defense & Security Solutions' net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 14%.

past-earnings-growth
past-earnings-growth

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. Is KTOS fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Kratos Defense & Security Solutions Efficiently Re-investing Its Profits?

Given that Kratos Defense & Security Solutions doesn't pay any dividend to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.

Summary

In total, it does look like Kratos Defense & Security Solutions has some positive aspects to its business. Despite its low rate of return, the fact that the company reinvests a very high portion of its profits into its business, no doubt contributed to its high earnings growth. 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.

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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