Eneva S.A.'s (BVMF:ENEV3) Stock On An Uptrend: Could Fundamentals Be Driving The Momentum?

Most readers would already be aware that Eneva's (BVMF:ENEV3) stock increased significantly by 29% 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 Eneva'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Eneva

How Is ROE Calculated?

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 Eneva is:

10% = R$719m ÷ R$7.2b (Based on the trailing twelve months to June 2020).

The 'return' is the yearly profit. Another way to think of that is that for every R$1 worth of equity, the company was able to earn R$0.10 in profit.

What Is The Relationship Between ROE And 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.

Eneva's Earnings Growth And 10% ROE

It is hard to argue that Eneva's ROE is much good in and of itself. Further, we noted that the company's ROE is similar to the industry average of 10%. However, the exceptional 61% net income growth seen by Eneva over the past five years is pretty remarkable. Considering the low ROE, it is quite possible that there might also be some other aspects that are positively influencing the company's earnings growth. 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 Eneva'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 45%.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Eneva's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Eneva Efficiently Re-investing Its Profits?

Eneva doesn't pay any dividend to its shareholders, meaning that the company has been reinvesting all of its profits into the business. This is likely what's driving the high earnings growth number discussed above.

Summary

In total, it does look like Eneva has some positive aspects to its business. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. 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. 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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