Ramsay Health Care Limited's (ASX:RHC) On An Uptrend But Financial Prospects Look Pretty Weak: Is The Stock Overpriced?

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26-05-2025

Ramsay Health Care (ASX:RHC) has had a great run on the share market with its stock up by a significant 8.8% over the last month. We, however wanted to have a closer look at its key financial indicators as the markets usually pay for long-term fundamentals, and in this case, they don't look very promising. Specifically, we decided to study Ramsay Health Care'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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.
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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 Ramsay Health Care is:
0.5% = AU$29m ÷ AU$5.4b (Based on the trailing twelve months to December 2024).
The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each A$1 of shareholders' capital it has, the company made A$0.01 in profit.
See our latest analysis for Ramsay Health Care
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 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.
As you can see, Ramsay Health Care's ROE looks pretty weak. Not just that, even compared to the industry average of 3.0%, the company's ROE is entirely unremarkable. For this reason, Ramsay Health Care's five year net income decline of 17% is not surprising given its lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For instance, the company has a very high payout ratio, or is faced with competitive pressures.
With the industry earnings declining at a rate of 19% in the same period, we deduce that both the company and the industry are shrinking at the same rate.
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. Is Ramsay Health Care fairly valued compared to other companies? These 3 valuation measures might help you decide.
Ramsay Health Care's declining earnings is not surprising given how the company is spending most of its profits in paying dividends, judging by its three-year median payout ratio of 85% (or a retention ratio of 15%). With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. Our risks dashboard should have the 3 risks we have identified for Ramsay Health Care.
In addition, Ramsay Health Care has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 63% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 7.7%, over the same period.
Overall, we would be extremely cautious before making any decision on Ramsay Health Care. Because the company is not reinvesting much into the business, and given the low ROE, it's not surprising to see the lack or absence of growth in its earnings. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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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