Declining Stock and Solid Fundamentals: Is The Market Wrong About Dis-Chem Pharmacies Limited (JSE:DCP)?

Simply Wall St
·4 min read

With its stock down 13% over the past three months, it is easy to disregard Dis-Chem Pharmacies (JSE:DCP). But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Particularly, we will be paying attention to Dis-Chem Pharmacies' ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Dis-Chem Pharmacies

How Is ROE Calculated?

ROE 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 Dis-Chem Pharmacies is:

28% = R1.1b ÷ R3.8b (Based on the trailing twelve months to August 2022).

The 'return' is the amount earned after tax over the last twelve months. So, this means that for every ZAR1 of its shareholder's investments, the company generates a profit of ZAR0.28.

What Is The Relationship Between ROE And Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

Dis-Chem Pharmacies' Earnings Growth And 28% ROE

To begin with, Dis-Chem Pharmacies seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 22%. This certainly adds some context to Dis-Chem Pharmacies' decent 5.5% net income growth seen over the past five years.

As a next step, we compared Dis-Chem Pharmacies' net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 5.1% in the same period.

past-earnings-growth
past-earnings-growth

Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for DCP? You can find out in our latest intrinsic value infographic research report.

Is Dis-Chem Pharmacies Using Its Retained Earnings Effectively?

With a three-year median payout ratio of 40% (implying that the company retains 60% of its profits), it seems that Dis-Chem Pharmacies is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Besides, Dis-Chem Pharmacies has been paying dividends over a period of six years. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 52% over the next three years. Regardless, the ROE is not expected to change much for the company despite the higher expected payout ratio.

Summary

On the whole, we feel that Dis-Chem Pharmacies' performance has been quite good. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. 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.

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

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.

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