Cleanaway Waste Management Limited's (ASX:CWY) Stock On An Uptrend: Could Fundamentals Be Driving The Momentum?

Cleanaway Waste Management (ASX:CWY) has had a great run on the share market with its stock up by a significant 18% over the last three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Particularly, we will be paying attention to Cleanaway Waste Management's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for Cleanaway Waste Management

How Is ROE Calculated?

The formula for return on equity is:

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

So, based on the above formula, the ROE for Cleanaway Waste Management is:

5.6% = AU$147m ÷ AU$2.6b (Based on the trailing twelve months to December 2020).

The 'return' is the amount earned after tax over the last twelve months. That means that for every A$1 worth of shareholders' equity, the company generated A$0.06 in profit.

Why Is ROE Important For 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 Cleanaway Waste Management's Earnings Growth And 5.6% ROE

On the face of it, Cleanaway Waste Management's ROE is not much to talk about. Next, when compared to the average industry ROE of 8.8%, the company's ROE leaves us feeling even less enthusiastic. However, we we're pleasantly surprised to see that Cleanaway Waste Management grew its net income at a significant rate of 21% in the last five years. Therefore, there could be other reasons behind this 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.

We then performed a comparison between Cleanaway Waste Management's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 21% in the same period.

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. This then helps them determine if the stock is placed for a bright or bleak future. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Cleanaway Waste Management is trading on a high P/E or a low P/E, relative to its industry.

Is Cleanaway Waste Management Making Efficient Use Of Its Profits?

Cleanaway Waste Management's significant three-year median payout ratio of 60% (where it is retaining only 40% of its income) suggests that the company has been able to achieve a high growth in earnings despite returning most of its income to shareholders.

Additionally, Cleanaway Waste Management has paid dividends over a period of seven years which means that the company is pretty serious about sharing its profits with shareholders. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 60% of its profits over the next three years. Regardless, the future ROE for Cleanaway Waste Management is predicted to rise to 8.0% despite there being not much change expected in its payout ratio.

Summary

In total, it does look like Cleanaway Waste Management has some positive aspects to its business. 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. 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.

If you’re looking to trade Cleanaway Waste Management, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.