Yahoo Finance Declining Stock and Decent Financials: Is The Market Wrong About Dechra Pharmaceuticals PLC (LON:DPH)?
Dechra Pharmaceuticals (LON:DPH) has had a rough month with its share price down 7.2%. 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 Dechra Pharmaceuticals' ROE.
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. Put another way, it reveals the company's success at turning shareholder investments into profits.
See our latest analysis for Dechra Pharmaceuticals
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 Dechra Pharmaceuticals is:
4.8% = UK£40m ÷ UK£842m (Based on the trailing twelve months to December 2022).
The 'return' is the amount earned after tax over the last twelve months. That means that for every £1 worth of shareholders' equity, the company generated £0.05 in profit.
What Has ROE Got To Do With Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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.
A Side By Side comparison of Dechra Pharmaceuticals' Earnings Growth And 4.8% ROE
At first glance, Dechra Pharmaceuticals' ROE doesn't look very promising. However, its ROE is similar to the industry average of 4.8%, so we won't completely dismiss the company. Having said that, Dechra Pharmaceuticals has shown a modest net income growth of 14% over the past five years. Considering the moderately low ROE, it is quite possible that there might be some 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 Dechra Pharmaceuticals' net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 13% in the same period.
Earnings growth is an important metric to consider when valuing a stock. 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. What is DPH worth today? The intrinsic value infographic in our free research report helps visualize whether DPH is currently mispriced by the market.
Is Dechra Pharmaceuticals Making Efficient Use Of Its Profits?
While Dechra Pharmaceuticals has a three-year median payout ratio of 84% (which means it retains 16% of profits), the company has still seen a fair bit of earnings growth in the past, meaning that its high payout ratio hasn't hampered its ability to grow.
Besides, Dechra Pharmaceuticals has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 36% over the next three years. As a result, the expected drop in Dechra Pharmaceuticals' payout ratio explains the anticipated rise in the company's future ROE to 17%, over the same period.
Conclusion
Overall, we feel that Dechra Pharmaceuticals certainly does have some positive factors to consider. While no doubt its earnings growth is pretty substantial, we do feel that the reinvestment rate is pretty low, meaning, the earnings growth number could have been significantly higher had the company been retaining more of its profits. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.
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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.
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