Axway Software SA's (EPA:AXW) Has Been On A Rise But Financial Prospects Look Weak: Is The Stock Overpriced?

Axway Software (EPA:AXW) has had a great run on the share market with its stock up by a significant 21% over the last three months. We, however wanted to have a closer look at its key financial indicators as the markets usually pay for long-term fundamentals, and in this case, they don't look very promising. In this article, we decided to focus on Axway Software's ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Axway Software

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 Axway Software is:

2.4% = €8.5m ÷ €356m (Based on the trailing twelve months to December 2020).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every €1 worth of equity, the company was able to earn €0.02 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. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

Axway Software's Earnings Growth And 2.4% ROE

It is quite clear that Axway Software's ROE is rather low. Even compared to the average industry ROE of 9.1%, the company's ROE is quite dismal. For this reason, Axway Software's five year net income decline of 45% is not surprising given its lower ROE. However, there could also be other factors causing the earnings to decline. Such as - low earnings retention or poor allocation of capital.

However, when we compared Axway Software's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 6.2% in the same period. This is quite worrisome.

Earnings growth is a huge factor in stock valuation. 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. Is Axway Software fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Axway Software Making Efficient Use Of Its Profits?

With a high three-year median payout ratio of 96% (implying that 3.9% of the profits are retained), most of Axway Software's profits are being paid to shareholders, which explains the company's shrinking earnings. With only very little left to reinvest into the business, growth in earnings is far from likely.

Additionally, Axway Software has paid dividends over a period of nine years, which means that the company's management is rather focused on keeping up its dividend payments, regardless of the shrinking earnings. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 30% over the next three years. The fact that the company's ROE is expected to rise to 6.7% over the same period is explained by the drop in the payout ratio.

Summary

In total, we would have a hard think before deciding on any investment action concerning Axway Software. 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. 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. 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.
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