First Property Group plc's (LON:FPO) Stock is Soaring But Financials Seem Inconsistent: Will The Uptrend Continue?

First Property Group (LON:FPO) has had a great run on the share market with its stock up by a significant 17% over the last three months. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. Specifically, we decided to study First Property Group'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. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

See our latest analysis for First Property Group

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 First Property Group is:

6.5% = UK£3.1m ÷ UK£47m (Based on the trailing twelve months to September 2020).

The 'return' is the profit over the last twelve months. So, this means that for every £1 of its shareholder's investments, the company generates a profit of £0.07.

Why Is ROE Important For Earnings Growth?

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

First Property Group's Earnings Growth And 6.5% ROE

At first glance, First Property Group's ROE doesn't look very promising. Yet, a closer study shows that the company's ROE is similar to the industry average of 7.6%. But First Property Group saw a five year net income decline of 6.2% over the past five years. Bear in mind, the company does have a slightly low ROE. So that's what might be causing earnings growth to shrink.

However, when we compared First Property Group's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 2.5% 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. This then helps them determine if the stock is placed for a bright or bleak future. Is First Property Group fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is First Property Group Using Its Retained Earnings Effectively?

Looking at its three-year median payout ratio of 34% (or a retention ratio of 66%) which is pretty normal, First Property Group's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Moreover, First Property Group 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. Looking at the current analyst consensus data, we can see that the company's future payout ratio is expected to rise to 87% over the next three years.

Conclusion

Overall, we have mixed feelings about First Property Group. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. To know the 4 risks we have identified for First Property Group visit our risks dashboard for free.

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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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