Yahoo Finance Is Ramsay Health Care Limited's (ASX:RHC) Stock On A Downtrend As A Result Of Its Poor Financials?
With its stock down 11% over the past three months, it is easy to disregard Ramsay Health Care (ASX:RHC). To decide if this trend could continue, we decided to look at its weak fundamentals as they shape the long-term market trends. In this article, we decided to focus on Ramsay Health Care's 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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
View our latest analysis for Ramsay Health Care
How Do You 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 Ramsay Health Care is:
4.7% = AU$257m ÷ AU$5.5b (Based on the trailing twelve months to December 2023).
The 'return' is the yearly profit. Another way to think of that is that for every A$1 worth of equity, the company was able to earn A$0.05 in profit.
What Has ROE Got To Do With Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. 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.
Ramsay Health Care's Earnings Growth And 4.7% ROE
When you first look at it, Ramsay Health Care's ROE doesn't look that attractive. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 6.8%. Therefore, it might not be wrong to say that the five year net income decline of 13% seen by Ramsay Health Care was probably the result of it having a lower ROE. However, there could also be other factors causing the earnings to decline. For instance, the company has a very high payout ratio, or is faced with competitive pressures.
That being said, we compared Ramsay Health Care's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 1.5% in the same 5-year period.
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. Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for RHC? You can find out in our latest intrinsic value infographic research report.
Is Ramsay Health Care Efficiently Re-investing Its Profits?
With a high three-year median payout ratio of 78% (implying that 22% of the profits are retained), most of Ramsay Health Care's profits are being paid to shareholders, which explains the company's shrinking earnings. The business is only left with a small pool of capital to reinvest - A vicious cycle that doesn't benefit the company in the long-run. To know the 2 risks we have identified for Ramsay Health Care visit our risks dashboard for free.
Additionally, Ramsay Health Care has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 59% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 12%, over the same period.
Conclusion
In total, we would have a hard think before deciding on any investment action concerning Ramsay Health Care. The company has seen a lack of earnings growth as a result of retaining very little profits and whatever little it does retain, is being reinvested at a very low rate of return. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com
