Swiss Prime Site AG's (VTX:SPSN) Stock's Been Going Strong: Could Weak Financials Mean The Market Will Correct Its Share Price?

Most readers would already be aware that Swiss Prime Site's (VTX:SPSN) stock increased significantly by 10% over the past three months. However, we decided to pay close attention to its weak financials as we are doubtful that the current momentum will keep up, given the scenario. Specifically, we decided to study Swiss Prime Site's ROE in this article.

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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

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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 Swiss Prime Site is:

5.4% = CHF360m ÷ CHF6.7b (Based on the trailing twelve months to December 2024).

The 'return' is the income the business earned over the last year. So, this means that for every CHF1 of its shareholder's investments, the company generates a profit of CHF0.05.

See our latest analysis for Swiss Prime Site

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. 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.

A Side By Side comparison of Swiss Prime Site's Earnings Growth And 5.4% ROE

At first glance, Swiss Prime Site's ROE doesn't look very promising. Yet, a closer study shows that the company's ROE is similar to the industry average of 6.6%. But Swiss Prime Site saw a five year net income decline of 24% over the past five years. Bear in mind, the company does have a slightly low ROE. Hence, this goes some way in explaining the shrinking earnings.

Furthermore, even when compared to the industry, which has been shrinking its earnings at a rate of 10% over the last few years, we found that Swiss Prime Site's performance is pretty disappointing, as it suggests that the company has been shrunk its earnings at a rate faster than the industry.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about Swiss Prime Site's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Swiss Prime Site Making Efficient Use Of Its Profits?

Swiss Prime Site has a high three-year median payout ratio of 87% (that is, it is retaining 13% 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. Our risks dashboard should have the 2 risks we have identified for Swiss Prime Site.

In addition, Swiss Prime Site 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. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 83%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 4.9%.

Summary

In total, we would have a hard think before deciding on any investment action concerning Swiss Prime Site. The company has seen a lack of earnings growth as a result of retaining very little profits and whatever little it does retain, is being reinvested at a very low rate of return. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. 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.