Does Infratil Limited's (NZSE:IFT) Weak Fundamentals Mean A Downturn In Its Stock Should Be Expected?
Infratil's (NZSE:IFT) stock is up by 8.5% over the past three months. However, its weak financial performance indicators makes us a bit doubtful if that trend could continue. Specifically, we decided to study Infratil'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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.
Check out our latest analysis for Infratil
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 Infratil is:
5.4% = NZ$312m ÷ NZ$5.7b (Based on the trailing twelve months to September 2022).
The 'return' is the profit over the last twelve months. So, this means that for every NZ$1 of its shareholder's investments, the company generates a profit of NZ$0.05.
Why Is ROE Important For Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.
A Side By Side comparison of Infratil's Earnings Growth And 5.4% ROE
On the face of it, Infratil's ROE is not much to talk about. However, given that the company's ROE is similar to the average industry ROE of 6.4%, we may spare it some thought. But Infratil saw a five year net income decline of 19% over the past five years. Remember, the company's ROE is a bit low to begin with. Hence, this goes some way in explaining the shrinking earnings.
That being said, we compared Infratil'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 9.5% in the same period.
Earnings growth is an important metric to consider when valuing a stock. 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. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Infratil is trading on a high P/E or a low P/E, relative to its industry.
Is Infratil Efficiently Re-investing Its Profits?
With a LTM (or last twelve month) payout ratio as high as 146%,Infratil's shrinking earnings don't come as a surprise as the company is paying a dividend which is beyond its means. Paying a dividend beyond their means is usually not viable over the long term. You can see the 2 risks we have identified for Infratil by visiting our risks dashboard for free on our platform here.
Additionally, Infratil 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. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 95% over the next three years. However, Infratil's future ROE is expected to decline to 3.2% despite the expected decline in its payout ratio. We infer that there could be other factors that could be steering the foreseen decline in the company's ROE.
Summary
Overall, we would be extremely cautious before making any decision on Infratil. Specifically, it has shown quite an unsatisfactory performance as far as earnings growth is concerned, and a poor ROE and an equally poor rate of reinvestment seem to be the reason behind this inadequate performance. Moreover, after studying current analyst estimates, we discovered that the company's earnings are expected to continue to shrink in the future. 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.
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