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Most readers would already be aware that Inspiration Healthcare Group's (LON:IHC) stock increased significantly by 34% over the past three months. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. Particularly, we will be paying attention to Inspiration Healthcare Group's ROE today.
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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.
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 Inspiration Healthcare Group is:
8.9% = UK£2.8m ÷ UK£32m (Based on the trailing twelve months to January 2021).
The 'return' is the yearly profit. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.09 in profit.
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 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.
Inspiration Healthcare Group's Earnings Growth And 8.9% ROE
When you first look at it, Inspiration Healthcare Group's ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 8.5%, we may spare it some thought. Looking at Inspiration Healthcare Group's exceptional 29% five-year net income growth in particular, we are definitely impressed. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.
As a next step, we compared Inspiration Healthcare Group's 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 29% 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). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Inspiration Healthcare Group is trading on a high P/E or a low P/E, relative to its industry.
Is Inspiration Healthcare Group Efficiently Re-investing Its Profits?
Inspiration Healthcare Group's ' three-year median payout ratio is on the lower side at 7.1% implying that it is retaining a higher percentage (93%) of its profits. This suggests that the management is reinvesting most of the profits to grow the business as evidenced by the growth seen by the company.
Along with seeing a growth in earnings, Inspiration Healthcare Group only recently started paying dividends. Its quite possible that the company was looking to impress its shareholders.
Overall, we feel that Inspiration Healthcare Group certainly does have some positive factors to consider. 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. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. To know the 2 risks we have identified for Inspiration Healthcare Group visit our risks dashboard for free.
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.
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