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Should Weakness in SkyCity Entertainment Group Limited's (NZSE:SKC) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

·4-min read

It is hard to get excited after looking at SkyCity Entertainment Group's (NZSE:SKC) recent performance, when its stock has declined 4.1% over the past three months. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on SkyCity Entertainment Group'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 SkyCity Entertainment Group

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 SkyCity Entertainment Group is:

2.9% = NZ$45m ÷ NZ$1.6b (Based on the trailing twelve months to December 2021).

The 'return' is the income the business earned over the last year. So, this means that for every NZ$1 of its shareholder's investments, the company generates a profit of NZ$0.03.

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. 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.

SkyCity Entertainment Group's Earnings Growth And 2.9% ROE

It is hard to argue that SkyCity Entertainment Group's ROE is much good in and of itself. Not just that, even compared to the industry average of 9.6%, the company's ROE is entirely unremarkable. Accordingly, SkyCity Entertainment Group's low net income growth of 4.0% over the past five years can possibly be explained by the low ROE amongst other factors.

We then compared SkyCity Entertainment Group's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 3.3% in the same period.

past-earnings-growth
past-earnings-growth

Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for SKC? You can find out in our latest intrinsic value infographic research report.

Is SkyCity Entertainment Group Efficiently Re-investing Its Profits?

Despite having a normal three-year median payout ratio of 34% (or a retention ratio of 66% over the past three years, SkyCity Entertainment Group has seen very little growth in earnings as we saw above. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

In addition, SkyCity Entertainment Group has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. Looking at the current analyst consensus data, we can see that the company's future payout ratio is expected to rise to 87% over the next three years. Regardless, the future ROE for SkyCity Entertainment Group is speculated to rise to 10.0% despite the anticipated increase in the payout ratio. There could probably be other factors that could be driving the future growth in the ROE.

Conclusion

In total, it does look like SkyCity Entertainment Group has some positive aspects to its business. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.