Lavena AD's (BUL:4L4) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?

It is hard to get excited after looking at Lavena AD's (BUL:4L4) recent performance, when its stock has declined 9.3% over the past week. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Particularly, we will be paying attention to Lavena AD's ROE today.

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 Lavena AD

How Is ROE Calculated?

ROE 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 Lavena AD is:

7.6% = лв1.7m ÷ лв23m (Based on the trailing twelve months to June 2020).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each BGN1 of shareholders' capital it has, the company made BGN0.08 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.

Lavena AD's Earnings Growth And 7.6% ROE

At first glance, Lavena AD's ROE doesn't look very promising. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 10.0% either. Although, we can see that Lavena AD saw a modest net income growth of 12% over the past five years. We reckon that there could 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.

Next, on comparing with the industry net income growth, we found that Lavena AD's growth is quite high when compared to the industry average growth of 8.6% in the same period, which is great to see.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. 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 Lavena AD is trading on a high P/E or a low P/E, relative to its industry.

Is Lavena AD Efficiently Re-investing Its Profits?

With a three-year median payout ratio of 27% (implying that the company retains 73% of its profits), it seems that Lavena AD is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Along with seeing a growth in earnings, Lavena AD only recently started paying dividends. Its quite possible that the company was looking to impress its shareholders.

Conclusion

On the whole, we do feel that Lavena AD has some positive attributes. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. You can see the 1 risk we have identified for Lavena AD by visiting our risks dashboard for free on our platform here.

When trading Lavena AD or any other investment, use the platform considered by many to be the Professional's Gateway to the Worlds Market, Interactive Brokers. You get the lowest-cost* trading on 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@simplywallst.com.