Declining Stock and Solid Fundamentals: Is The Market Wrong About Phoenix Group Holdings plc (LON:PHNX)?

It is hard to get excited after looking at Phoenix Group Holdings' (LON:PHNX) recent performance, when its stock has declined 8.7% over the past month. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Specifically, we decided to study Phoenix Group Holdings' 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for Phoenix Group Holdings

How Is ROE Calculated?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Phoenix Group Holdings is:

9.5% = UK£563m ÷ UK£5.9b (Based on the trailing twelve months to June 2020).

The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every £1 worth of equity, the company was able to earn £0.10 in profit.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

Phoenix Group Holdings' Earnings Growth And 9.5% ROE

To start with, Phoenix Group Holdings' ROE looks acceptable. And on comparing with the industry, we found that the the average industry ROE is similar at 11%. This probably goes some way in explaining Phoenix Group Holdings' significant 32% net income growth over the past five years amongst other factors. However, there could also be other drivers behind this growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

We then compared Phoenix Group Holdings' net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 11% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. 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 PHNX? You can find out in our latest intrinsic value infographic research report.

Is Phoenix Group Holdings Making Efficient Use Of Its Profits?

Phoenix Group Holdings' significant three-year median payout ratio of 83% (where it is retaining only 17% of its income) suggests that the company has been able to achieve a high growth in earnings despite returning most of its income to shareholders.

Additionally, Phoenix Group Holdings has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 74%. However, Phoenix Group Holdings' future ROE is expected to decline to 7.4% despite there being not much change anticipated in the company's payout ratio.

Conclusion

In total, we are pretty happy with Phoenix Group Holdings' performance. We are particularly impressed by the considerable earnings growth posted by the company, which was likely backed by its high ROE. While the company is paying out most of its earnings as dividends, it has been able to grow its earnings in spite of it, so that's probably a good sign. Having said that, on studying current analyst estimates, we were concerned to see that while the company has grown its earnings in the past, analysts expect its earnings to shrink in the future. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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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