Should Weakness in Ultrapar Participações S.A.'s (BVMF:UGPA3) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

Ultrapar Participações (BVMF:UGPA3) has had a rough three months with its share price down 22%. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Particularly, we will be paying attention to Ultrapar Participações' ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

See our latest analysis for Ultrapar Participações

How Do You 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 Ultrapar Participações is:

19% = R$2.7b ÷ R$14b (Based on the trailing twelve months to March 2024).

The 'return' is the income the business earned over the last year. 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?

So far, we've learned that ROE is a measure of a company's profitability. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

Ultrapar Participações' Earnings Growth And 19% ROE

To begin with, Ultrapar Participações seems to have a respectable ROE. Especially when compared to the industry average of 13% the company's ROE looks pretty impressive. This certainly adds some context to Ultrapar Participações' exceptional 29% net income growth seen over the past five years. However, there could also be other causes 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.

Next, on comparing with the industry net income growth, we found that Ultrapar Participações' reported growth was lower than the industry growth of 39% over the last few years, which is not something we like to see.

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. Is Ultrapar Participações fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Ultrapar Participações Using Its Retained Earnings Effectively?

The high three-year median payout ratio of 51% (implying that it keeps only 49% of profits) for Ultrapar Participações suggests that the company's growth wasn't really hampered despite it returning most of the earnings to its shareholders.

Additionally, Ultrapar Participações 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. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 40% over the next three years. However, the company's ROE is not expected to change by much despite the lower expected payout ratio.

Conclusion

Overall, we feel that Ultrapar Participações certainly does have some positive factors to consider. Its earnings have grown respectably as we saw earlier, which was likely due to the company reinvesting its earnings at a pretty high rate of return. However, given the high ROE, we do think that the company is reinvesting a small portion of its profits. This could likely be preventing the company from growing to its full extent. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. 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.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.