Sensient Technologies Corporation (NYSE:SXT) Stock's On A Decline: Are Poor Fundamentals The Cause?

Sensient Technologies (NYSE:SXT) has had a rough month with its share price down 7.8%. To decide if this trend could continue, we decided to look at its weak fundamentals as they shape the long-term market trends. Specifically, we decided to study Sensient Technologies' 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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Sensient Technologies

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 Sensient Technologies is:

8.3% = US$88m ÷ US$1.1b (Based on the trailing twelve months to June 2024).

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 $0.08 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. 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.

A Side By Side comparison of Sensient Technologies' Earnings Growth And 8.3% ROE

On the face of it, Sensient Technologies' ROE is not much to talk about. However, its ROE is similar to the industry average of 9.6%, so we won't completely dismiss the company. Having said that, Sensient Technologies has shown a meagre net income growth of 2.4% over the past five years. Remember, the company's ROE is not particularly great to begin with. Hence, this does provide some context to low earnings growth seen by the company.

We then compared Sensient Technologies' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 13% in the same 5-year period, which is a bit concerning.

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. Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for SXT? You can find out in our latest intrinsic value infographic research report.

Is Sensient Technologies Making Efficient Use Of Its Profits?

The high three-year median payout ratio of 54% (that is, the company retains only 46% of its income) over the past three years for Sensient Technologies suggests that the company's earnings growth was lower as a result of paying out a majority of its earnings.

Moreover, Sensient Technologies 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. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 43% of its profits over the next three years. Regardless, the future ROE for Sensient Technologies is predicted to rise to 13% despite there being not much change expected in its payout ratio.

Summary

Overall, we would be extremely cautious before making any decision on Sensient Technologies. As a result of its low ROE and lack of much reinvestment into the business, the company has seen a disappointing earnings growth rate. 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.