Is Raia Drogasil S.A.'s (BVMF:RADL3) Recent Performance Tethered To Its Attractive Financial Prospects?

Raia Drogasil's (BVMF:RADL3) stock is up by 5.4% over the past three months. Since the market usually pay for a company’s long-term financial health, we decided to study the company’s fundamentals to see if they could be influencing the market. Particularly, we will be paying attention to Raia Drogasil's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Raia Drogasil

How Is ROE Calculated?

The formula for ROE is:

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

So, based on the above formula, the ROE for Raia Drogasil is:

9.9% = R$420m ÷ R$4.2b (Based on the trailing twelve months to September 2020).

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

Raia Drogasil's Earnings Growth And 9.9% ROE

It is hard to argue that Raia Drogasil's ROE is much good in and of itself. Still, the company's ROE is higher than the average industry ROE of 7.8% so that's certainly interesting. Especially considering that Raia Drogasil has seen a decent 13% net income growth seen over the past five years. Bear in mind, the company does have a low ROE. It is just that the industry ROE is lower. So there might well be other reasons for the earnings to grow. 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 compared Raia Drogasil's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 9.4% in the same period.

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Raia Drogasil is trading on a high P/E or a low P/E, relative to its industry.

Is Raia Drogasil Efficiently Re-investing Its Profits?

Raia Drogasil has a healthy combination of a moderate three-year median payout ratio of 39% (or a retention ratio of 61%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.

Additionally, Raia Drogasil has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 50% over the next three years. Still, forecasts suggest that Raia Drogasil's future ROE will rise to 23% 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

In total, we are pretty happy with Raia Drogasil's performance. Particularly, we like that the company is reinvesting heavily into its business at a moderate rate of return. Unsurprisingly, this has led to an impressive earnings growth. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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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