Could The Market Be Wrong About Companhia de Saneamento de Minas Gerais (BVMF:CSMG3) Given Its Attractive Financial Prospects?

It is hard to get excited after looking at Companhia de Saneamento de Minas Gerais' (BVMF:CSMG3) recent performance, when its stock has declined 8.8% over the past three months. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Companhia de Saneamento de Minas Gerais' ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Companhia de Saneamento de Minas Gerais

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 Companhia de Saneamento de Minas Gerais is:

13% = R$816m ÷ R$6.5b (Based on the trailing twelve months to December 2020).

The 'return' is the profit over the last twelve months. That means that for every R$1 worth of shareholders' equity, the company generated R$0.13 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. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Companhia de Saneamento de Minas Gerais' Earnings Growth And 13% ROE

At first glance, Companhia de Saneamento de Minas Gerais' ROE doesn't look very promising. However, the fact that the its ROE is quite higher to the industry average of 9.3% doesn't go unnoticed by us. Particularly, the substantial 26% net income growth seen by Companhia de Saneamento de Minas Gerais over the past five years is impressive . That being said, the company does have a slightly low ROE to begin with, just that it is higher than the industry average. Hence, there might be some other aspects that are causing earnings to grow. Such as- high earnings retention or the company belonging to a high growth industry.

We then compared Companhia de Saneamento de Minas Gerais' 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 7.9% in the same period.

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. Is CSMG3 fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Companhia de Saneamento de Minas Gerais Efficiently Re-investing Its Profits?

Companhia de Saneamento de Minas Gerais' three-year median payout ratio is a pretty moderate 29%, meaning the company retains 71% of its income. So it seems that Companhia de Saneamento de Minas Gerais is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

Besides, Companhia de Saneamento de Minas Gerais has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Looking at the current analyst consensus data, we can see that the company's future payout ratio is expected to rise to 46% over the next three years. However, the company's ROE is not expected to change by much despite the higher expected payout ratio.

Conclusion

On the whole, we feel that Companhia de Saneamento de Minas Gerais' performance has been quite good. In particular, it's great to see that the company has seen significant growth in its earnings backed by a respectable ROE and a high reinvestment rate. 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.

If you’re looking to trade Companhia de Saneamento de Minas Gerais, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade 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 (at) simplywallst.com.