Is RWE Aktiengesellschaft's (ETR:RWE) Latest Stock Performance Being Led By Its Strong Fundamentals?
RWE's (ETR:RWE) stock up by 8.7% over the past three months. Since the market usually pay for a company’s long-term financial health, we decided to study the company’s fundamentals to see if they could be influencing the market. In this article, we decided to focus on RWE's ROE.
Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Put another way, it reveals the company's success at turning shareholder investments into profits.
See our latest analysis for RWE
How To Calculate Return On Equity?
Return on equity 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 RWE is:
13% = €4.6b ÷ €36b (Based on the trailing twelve months to September 2023).
The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each €1 of shareholders' capital it has, the company made €0.13 in profit.
What Is The Relationship Between ROE And 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. 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.
RWE's Earnings Growth And 13% ROE
At first glance, RWE seems to have a decent ROE. On comparing with the average industry ROE of 10% the company's ROE looks pretty remarkable. This probably laid the ground for RWE's significant 64% net income growth seen over the past five years. We reckon that there could also be other factors at play here. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.
As a next step, we compared RWE's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 36%.
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. If you're wondering about RWE's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is RWE Using Its Retained Earnings Effectively?
The three-year median payout ratio for RWE is 44%, which is moderately low. The company is retaining the remaining 56%. By the looks of it, the dividend is well covered and RWE is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.
Moreover, RWE is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 44%. Regardless, RWE's ROE is speculated to decline to 5.9% despite there being no anticipated change in its payout ratio.
Summary
On the whole, we feel that RWE's performance has been quite good. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. Having said that, on studying current analyst estimates, we were concerned to see that while the company has grown its earnings in the past, analysts expect its earnings to shrink in the future. 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.
