Healthcare Services Group, Inc.'s (NASDAQ:HCSG) Stock Been Rising But Financials Look Weak: Should Shareholders Be Worried?

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Simply Wall St

Fri, May 27, 2022, 4:33 AM 4 min read

Most readers would already know that Healthcare Services Group's (NASDAQ:HCSG) stock increased by 6.9% over the past three months. However, in this article, we decided to focus on its weak financials, as long-term fundamentals ultimately dictate market outcomes. In this article, we decided to focus on Healthcare Services Group's ROE.

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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

Check out our latest analysis for Healthcare Services Group

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 Healthcare Services Group is:

7.3% = US$33m ÷ US$447m (Based on the trailing twelve months to March 2022).

The 'return' is the yearly profit. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.07 in profit.

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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 Healthcare Services Group's Earnings Growth And 7.3% ROE

On the face of it, Healthcare Services Group's ROE is not much to talk about. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 10% either. Therefore, it might not be wrong to say that the five year net income decline of 3.9% seen by Healthcare Services Group was probably the result of it having a lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

So, as a next step, we compared Healthcare Services Group'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 6.2% in the same period.

past-earnings-growth — NasdaqGS:HCSG Past Earnings Growth May 27th 2022

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. Has the market priced in the future outlook for HCSG? You can find out in our latest intrinsic value infographic research report.

Is Healthcare Services Group Efficiently Re-investing Its Profits?

With a high three-year median payout ratio of 75% (implying that 25% of the profits are retained), most of Healthcare Services Group's profits are being paid to shareholders, which explains the company's shrinking earnings. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. To know the 2 risks we have identified for Healthcare Services Group visit our risks dashboard for free.

Additionally, Healthcare Services Group 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.

Summary

On the whole, Healthcare Services Group's performance is quite a big let-down. Because the company is not reinvesting much into the business, and given the low ROE, it's not surprising to see the lack or absence of growth in its earnings. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. 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.