Most readers would already be aware that Innovative Industrial Properties’ (NYSE:IIPR) stock increased significantly by 12% over the past three months. We wonder if and what role the company’s financials play in that price change as a company’s long-term fundamentals usually dictate market outcomes. Specifically, we decided to study Innovative Industrial Properties’ ROE in this article.
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.
How Do You 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 Innovative Industrial Properties is:
6.3% = US$96m ÷ US$1.5b (Based on the trailing twelve months to June 2021).
The ‘return’ is the yearly profit. One way to conceptualize this is that for each $1 of shareholders’ capital it has, the company made $0.06 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. Based on how much of its profits the company chooses to reinvest or “retain”, we are then able to evaluate a company’s future ability to generate profits. 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.
A Side By Side comparison of Innovative Industrial Properties’ Earnings Growth And 6.3% ROE
When you first look at it, Innovative Industrial Properties’ ROE doesn’t look that attractive. However, given that the company’s ROE is similar to the average industry ROE of 5.6%, we may spare it some thought. Moreover, we are quite pleased to see that Innovative Industrial Properties’ net income grew significantly at a rate of 83% over the last five years. Considering the moderately low ROE, it is quite possible that there might be some other aspects that are positively influencing the company’s earnings growth. For instance, the company has a low payout ratio or is being managed efficiently.
Next, on comparing with the industry net income growth, we found that Innovative Industrial Properties’ growth is quite high when compared to the industry average growth of 8.9% in the same period, which is great to see.
Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Innovative Industrial Properties fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Innovative Industrial Properties Efficiently Re-investing Its Profits?
Innovative Industrial Properties has a very high three-year median payout ratio of 84%. This means that it has only 16% of its income left to reinvest into its business. However, it’s not unusual to see a REIT with such a high payout ratio mainly due to statutory requirements. Regardless, this hasn’t hampered its ability to grow as we saw earlier.
Moreover, Innovative Industrial Properties is determined to keep sharing its profits with shareholders which we infer from its long history of four years of paying a dividend. 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 83%.
On the whole, we do feel that Innovative Industrial Properties has some positive attributes. That is, quite an impressive growth in earnings. However, the low profit retention means that the company’s earnings growth could have been higher, had it been reinvesting a higher portion of its profits. With that said, the latest industry analyst forecasts reveal that the company’s earnings growth is expected to slow down. Are these analysts expectations based on the broad expectations for the industry, or on the company’s fundamentals? Click here to be taken to our analyst’s forecasts page for the company.
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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