Recordati Industria Chimica e Farmaceutica S.p.A.'s (BIT:REC) Stock Has Shown Weakness Lately But Financial Prospects Look Decent: Is The Market Wrong?

Recordati Industria Chimica e Farmaceutica (BIT:REC) has had a rough three months with its share price down 4.3%. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Particularly, we will be paying attention to Recordati Industria Chimica e Farmaceutica's 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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Recordati Industria Chimica e Farmaceutica

How Do You Calculate Return On Equity?

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 Recordati Industria Chimica e Farmaceutica is:

21% = €389m ÷ €1.8b (Based on the trailing twelve months to March 2024).

The 'return' is the profit over the last twelve months. That means that for every €1 worth of shareholders' equity, the company generated €0.21 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. 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Recordati Industria Chimica e Farmaceutica's Earnings Growth And 21% ROE

To start with, Recordati Industria Chimica e Farmaceutica's ROE looks acceptable. Further, the company's ROE compares quite favorably to the industry average of 11%. Despite this, Recordati Industria Chimica e Farmaceutica's five year net income growth was quite flat over the past five years. Therefore, there could be some other aspects that could potentially be preventing the company from growing. For example, it could be that the company has a high payout ratio or the business has allocated capital poorly, for instance.

Next, on comparing with the industry net income growth, we found that Recordati Industria Chimica e Farmaceutica's reported growth was lower than the industry growth of 8.4% over the last few years, which is not something we like to see.

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. This then helps them determine if the stock is placed for a bright or bleak future. What is REC worth today? The intrinsic value infographic in our free research report helps visualize whether REC is currently mispriced by the market.

Is Recordati Industria Chimica e Farmaceutica Using Its Retained Earnings Effectively?

The high three-year median payout ratio of 64% (meaning, the company retains only 36% of profits) for Recordati Industria Chimica e Farmaceutica suggests that the company's earnings growth was miniscule as a result of paying out a majority of its earnings.

Additionally, Recordati Industria Chimica e Farmaceutica has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 55% of its profits over the next three years. Regardless, the future ROE for Recordati Industria Chimica e Farmaceutica is predicted to rise to 26% despite there being not much change expected in its payout ratio.

Summary

Overall, we feel that Recordati Industria Chimica e Farmaceutica certainly does have some positive factors to consider. However, while the company does have a high ROE, its earnings growth number is quite disappointing. This can be blamed on the fact that it reinvests only a small portion of its profits and pays out the rest as dividends. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com