It is hard to get excited after looking at Fisher & Paykel Healthcare's (NZSE:FPH) recent performance, when its stock has declined 13% over the past three months. To decide if this trend could continue, we decided to look at its weak fundamentals as they shape the long-term market trends. Particularly, we will be paying attention to Fisher & Paykel Healthcare's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

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How Is ROE Calculated?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Fisher & Paykel Healthcare is:

9.2% = NZ$179m ÷ NZ$1.9b (Based on the trailing twelve months to September 2024).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every NZ$1 worth of equity, the company was able to earn NZ$0.09 in profit.

Check out our latest analysis for Fisher & Paykel Healthcare

What Is The Relationship Between ROE And 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. 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.

Fisher & Paykel Healthcare's Earnings Growth And 9.2% ROE

On the face of it, Fisher & Paykel Healthcare's ROE is not much to talk about. Yet, a closer study shows that the company's ROE is similar to the industry average of 9.2%. But Fisher & Paykel Healthcare saw a five year net income decline of 13% over the past five years. Remember, the company's ROE is a bit low to begin with. So that's what might be causing earnings growth to shrink.

So, as a next step, we compared Fisher & Paykel Healthcare's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 14% over the last few years.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. Is Fisher & Paykel Healthcare fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Fisher & Paykel Healthcare Efficiently Re-investing Its Profits?

Fisher & Paykel Healthcare has a high three-year median payout ratio of 92% (that is, it is retaining 7.8% of its profits). This suggests that the company is paying most of its profits as dividends to its shareholders. This goes some way in explaining why its earnings have been shrinking. With only very little left to reinvest into the business, growth in earnings is far from likely. To know the 2 risks we have identified for Fisher & Paykel Healthcare visit our risks dashboard for free.

In addition, Fisher & Paykel Healthcare 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. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 66% over the next three years. The fact that the company's ROE is expected to rise to 24% over the same period is explained by the drop in the payout ratio.

Summary

Overall, we would be extremely cautious before making any decision on Fisher & Paykel Healthcare. The low ROE, combined with the fact that the company is paying out almost if not all, of its profits as dividends, has resulted in the lack or absence of growth in its earnings. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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.

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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.