Declining Stock and Decent Financials: Is The Market Wrong About Third Age Health Services Limited (NZSE:TAH)?

editorial-team@simplywallst.com (Simply Wall St)

Sat, Oct 19, 2024, 3:32 PM 4 min read

Third Age Health Services (NZSE:TAH) has had a rough month with its share price down 20%. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. Particularly, we will be paying attention to Third Age Health Services' 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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for Third Age Health Services

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 Third Age Health Services is:

47% = NZ$1.4m ÷ NZ$2.9m (Based on the trailing twelve months to March 2024).

The 'return' is the income the business earned over the last year. So, this means that for every NZ$1 of its shareholder's investments, the company generates a profit of NZ$0.47.

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 Third Age Health Services' Earnings Growth And 47% ROE

To begin with, Third Age Health Services has a pretty high ROE which is interesting. Additionally, the company's ROE is higher compared to the industry average of 9.2% which is quite remarkable. For this reason, Third Age Health Services' five year net income decline of 4.4% raises the question as to why the high ROE didn't translate into earnings growth. So, there might be some other aspects that could explain this. These include low earnings retention or poor allocation of capital.

That being said, we compared Third Age Health Services' 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 14% in the same 5-year period.

past-earnings-growth — NZSE:TAH Past Earnings Growth October 19th 2024

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 Third Age Health Services fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Third Age Health Services Using Its Retained Earnings Effectively?

Third Age Health Services has a high three-year median payout ratio of 78% (that is, it is retaining 22% 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 3 risks we have identified for Third Age Health Services visit our risks dashboard for free.

Moreover, Third Age Health Services has been paying dividends for three years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer consistent dividends even though earnings have been shrinking.

Conclusion

In total, it does look like Third Age Health Services has some positive aspects to its business. However, while the company does have a high ROE, its earnings growth number is quite disappointing. This can be blamed on the fact that it reinvests only a small portion of its profits and pays out the rest as dividends. Until now, we have only just grazed the surface of the company's past performance by looking at the company's fundamentals. So it may be worth checking this free detailed graph of Third Age Health Services' past earnings, as well as revenue and cash flows to get a deeper insight into the company's performance.

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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.