Is WEG S.A.'s (BVMF:WEGE3) Stock's Recent Performance Being Led By Its Attractive Financial Prospects?

WEG (BVMF:WEGE3) has had a great run on the share market with its stock up by a significant 21% over the last three months. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. Particularly, we will be paying attention to WEG's ROE today.

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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for WEG

How To 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 WEG is:

19% = R$2.1b ÷ R$11b (Based on the trailing twelve months to September 2020).

The 'return' is the yearly profit. That means that for every R$1 worth of shareholders' equity, the company generated R$0.19 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. 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 WEG's Earnings Growth And 19% ROE

To start with, WEG's ROE looks acceptable. On comparing with the average industry ROE of 7.9% the company's ROE looks pretty remarkable. This probably laid the ground for WEG's moderate 12% net income growth seen over the past five years.

As a next step, we compared WEG'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 6.7%.

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. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about WEG's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is WEG Efficiently Re-investing Its Profits?

The high three-year median payout ratio of 52% (or a retention ratio of 48%) for WEG suggests that the company's growth wasn't really hampered despite it returning most of its income to its shareholders.

Besides, WEG has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 43%. Still, forecasts suggest that WEG's future ROE will rise to 25% even though the the company's payout ratio is not expected to change by much.

Summary

On the whole, we feel that WEG's performance has been quite good. In particular, its high ROE is quite noteworthy and also the probable explanation behind its considerable earnings growth. Yet, the company is retaining a small portion of its profits. Which means that the company has been able to grow its earnings in spite of it, so that's not too bad. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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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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