Sonic Healthcare (ASX:SHL) has had a rough three months with its share price down 11%. It seems that the market might have completely ignored the positive aspects of the company's fundamentals and decided to weigh-in more on the negative aspects. Long-term fundamentals are usually what drive market outcomes, so it's worth paying close attention. In this article, we decided to focus on Sonic Healthcare's  ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

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How To Calculate Return On Equity?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Sonic Healthcare is:

7.0% = AU$581m ÷ AU$8.3b (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$0.07 in profit.

Check out our latest analysis for Sonic Healthcare

What Is The Relationship Between ROE And Earnings Growth?

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

A Side By Side comparison of Sonic Healthcare's Earnings Growth And 7.0% ROE

When you first look at it, Sonic Healthcare's ROE doesn't look that attractive. However, the fact that the its ROE is quite higher to the industry average of 3.8% doesn't go unnoticed by us. But then again, seeing that Sonic Healthcare's net income shrunk at a rate of 7.6% in the past five years, makes us think again. Remember, the company's ROE is a bit low to begin with, just that it is higher than the industry average. So that could be one of the factors that are causing earnings growth to shrink.

We then compared Sonic Healthcare's performance with the industry and found that the company has shrunk its earnings at a slower rate than the industry earnings which has seen its earnings shrink by 19% in the same 5-year period. While this is not particularly good, its not particularly bad either.

Story Continues

ASX:SHL Past Earnings Growth April 10th 2025

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). Doing so will help them establish if the stock's future looks promising or ominous. What is SHL worth today? The  intrinsic value infographic in our free research report  helps visualize whether SHL is currently mispriced by the market.

Is Sonic Healthcare Efficiently Re-investing Its Profits?

Sonic Healthcare'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 71% (or a retention ratio of 29%). With only a little being reinvested into the business, earnings growth would obviously be low or non-existent.

Moreover, Sonic Healthcare 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. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 74%. Still, forecasts suggest that Sonic Healthcare's future ROE will rise to 9.2% even though the the company's payout ratio is not expected to change by much.

Summary

On the whole, we feel that the performance shown by Sonic Healthcare can be open to many interpretations. Primarily, we are disappointed to see a lack of growth in earnings even in spite of a moderate ROE. Bear in mind, the company reinvests a small portion of its profits, which explains the lack of growth. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. To know more about the company's future earnings growth forecasts take a look at this freereport 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.

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