Should Weakness in Guararapes Confecções S.A.'s (BVMF:GUAR3) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

By
Simply Wall St
Published
February 10, 2021
BOVESPA:GUAR3
Source: Shutterstock

Guararapes Confecções (BVMF:GUAR3) has had a rough week with its share price down 5.0%. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. In this article, we decided to focus on Guararapes Confecções' 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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Guararapes Confecções

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 Guararapes Confecções is:

0.9% = R$45m ÷ R$4.9b (Based on the trailing twelve months to September 2020).

The 'return' is the income the business earned over the last year. So, this means that for every R$1 of its shareholder's investments, the company generates a profit of R$0.01.

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. 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.

Guararapes Confecções' Earnings Growth And 0.9% ROE

As you can see, Guararapes Confecções' ROE looks pretty weak. Even compared to the average industry ROE of 8.3%, the company's ROE is quite dismal. Guararapes Confecções was still able to see a decent net income growth of 14% over the past five years. We reckon that there could be other factors at play here. For instance, the company has a low payout ratio or is being managed efficiently.

Next, on comparing with the industry net income growth, we found that Guararapes Confecções' growth is quite high when compared to the industry average growth of 4.0% in the same period, which is great to see.

past-earnings-growth
BOVESPA:GUAR3 Past Earnings Growth February 11th 2021

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. Doing so will help them establish if the stock's future looks promising or ominous. Is Guararapes Confecções fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Guararapes Confecções Using Its Retained Earnings Effectively?

Guararapes Confecções' three-year median payout ratio to shareholders is 23% (implying that it retains 77% of its income), which is on the lower side, so it seems like the management is reinvesting profits heavily to grow its business.

Moreover, Guararapes Confecções 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. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 133% over the next three years. Still, forecasts suggest that Guararapes Confecções' future ROE will rise to 8.2% even though the the company's payout ratio is expected to rise. We presume that there could some other characteristics of the business that could be driving the anticipated growth in the company's ROE.

Summary

On the whole, we do feel that Guararapes Confecções has some positive attributes. Despite its low rate of return, the fact that the company reinvests a very high portion of its profits into its business, no doubt contributed to its high earnings growth. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. 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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