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Should Weakness in U.S. Physical Therapy, Inc.'s (NYSE:USPH) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

With its stock down 47% over the past three months, it is easy to disregard U.S. Physical Therapy (NYSE:USPH). However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Specifically, we decided to study U.S. Physical Therapy's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for U.S. Physical Therapy

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

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So, based on the above formula, the ROE for U.S. Physical Therapy is:

15% = US$57m ÷ US$379m (Based on the trailing twelve months to December 2019).

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 $0.15 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learnt 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.

U.S. Physical Therapy's Earnings Growth And 15% ROE

To begin with, U.S. Physical Therapy seems to have a respectable ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 13%. U.S. Physical Therapy's decent returns aren't reflected in U.S. Physical Therapy'smediocre five year net income growth average of 4.5%. So, there could be some other factors at play that could be impacting the company's growth. For instance, the company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.

As a next step, we compared U.S. Physical Therapy's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 13% in the same period.

NYSE:USPH Past Earnings Growth May 18th 2020
NYSE:USPH Past Earnings Growth May 18th 2020

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for USPH? You can find out in our latest intrinsic value infographic research report.

Is U.S. Physical Therapy Using Its Retained Earnings Effectively?

Despite having a moderate three-year median payout ratio of 41% (implying that the company retains the remaining 59% of its income), U.S. Physical Therapy's earnings growth was quite low. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

Moreover, U.S. Physical Therapy has been paying dividends for nine years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer dividends over earnings growth.

Conclusion

In total, it does look like U.S. Physical Therapy has some positive aspects to its business. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its growth. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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.

Love or hate this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.

This article by Simply Wall St is general in nature. 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. Thank you for reading.