Is Nine Entertainment Co. Holdings Limited's (ASX:NEC) Recent Price Movement Underpinned By Its Weak Fundamentals?

Nine Entertainment Holdings (ASX:NEC) has had a rough three months with its share price down 25%. We, however decided to study the company's financials to determine if they have got anything to do with the price decline. Fundamentals usually dictate market outcomes so it makes sense to study the company's financials. Particularly, we will be paying attention to Nine Entertainment Holdings' 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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Nine Entertainment Holdings

How To Calculate Return On Equity?

Return on equity 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 Nine Entertainment Holdings is:

6.3% = AU$119m ÷ AU$1.9b (Based on the trailing twelve months to December 2023).

The 'return' is the income the business earned over the last year. So, this means that for every A$1 of its shareholder's investments, the company generates a profit of A$0.06.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

Nine Entertainment Holdings' Earnings Growth And 6.3% ROE

When you first look at it, Nine Entertainment Holdings' ROE doesn't look that attractive. However, its ROE is similar to the industry average of 6.3%, so we won't completely dismiss the company. Moreover, we are quite pleased to see that Nine Entertainment Holdings' net income grew significantly at a rate of 21% over the last five years. Considering the moderately low ROE, it is quite possible that there might be some other aspects that are positively influencing the company's earnings growth. For instance, the company has a low payout ratio or is being managed efficiently.

We then performed a comparison between Nine Entertainment Holdings' net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 18% in the same 5-year period.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. 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 Nine Entertainment Holdings is trading on a high P/E or a low P/E, relative to its industry.

Is Nine Entertainment Holdings Using Its Retained Earnings Effectively?

The high three-year median payout ratio of 96% (implying that it keeps only 4.1% of profits) for Nine Entertainment Holdings suggests that the company's growth wasn't really hampered despite it returning most of the earnings to its shareholders.

Moreover, Nine Entertainment Holdings is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 71% over the next three years. The fact that the company's ROE is expected to rise to 14% over the same period is explained by the drop in the payout ratio.

Summary

Overall, we have mixed feelings about Nine Entertainment Holdings. Although the company has shown a pretty impressive growth in earnings, yet the low ROE and the low rate of reinvestment makes us skeptical about the continuity of that growth, especially when or if the business comes to face any threats. On studying current analyst estimates, we found that analysts expect the company to continue its recent growth streak. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.