Is IPH Limited's (ASX:IPH) Stock On A Downtrend As A Result Of Its Poor Financials?

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

Fri, Oct 18, 2024, 5:37 PM 4 min read

It is hard to get excited after looking at IPH's (ASX:IPH) recent performance, when its stock has declined 9.6% over the past three months. We decided to study the company's financials to determine if the downtrend will continue as the long-term performance of a company usually dictates market outcomes. Particularly, we will be paying attention to IPH's ROE today.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for IPH

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 IPH is:

9.6% = AU$61m ÷ AU$634m (Based on the trailing twelve months to June 2024).

The 'return' is the income the business earned over the last year. That means that for every A$1 worth of shareholders' equity, the company generated A$0.10 in profit.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.

IPH's Earnings Growth And 9.6% ROE

At first glance, IPH's ROE doesn't look very promising. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 16% either. Thus, the low net income growth of 2.4% seen by IPH over the past five years could probably be the result of the low ROE.

Next, on comparing with the industry net income growth, we found that IPH's reported growth was lower than the industry growth of 5.0% over the last few years, which is not something we like to see.

past-earnings-growth — ASX:IPH Past Earnings Growth October 18th 2024

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. 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 IPH is trading on a high P/E or a low P/E, relative to its industry.

Is IPH Using Its Retained Earnings Effectively?

IPH has a very high three-year median payout ratio of 126%, which suggests that the company is dipping into more than just its profits to pay its dividend and that shows in its low earnings growth number. That's a huge risk in our books. To know the 3 risks we have identified for IPH visit our risks dashboard for free.

Moreover, IPH has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 77% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 21%, over the same period.

Conclusion

In total, we would have a hard think before deciding on any investment action concerning IPH. Particularly, its ROE is a huge disappointment, not to mention its lack of proper reinvestment into the business. As a result its earnings growth has also been quite disappointing. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.