Is Companhia de Saneamento de Minas Gerais' (BVMF:CSMG3) Latest Stock Performance A Reflection Of Its Financial Health?

Companhia de Saneamento de Minas Gerais' (BVMF:CSMG3) stock is up by a considerable 13% over the past 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. 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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

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

How Is ROE Calculated?

The formula for return on equity 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:

19% = R$1.5b ÷ R$7.6b (Based on the trailing twelve months to June 2024).

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$0.19.

What Is The Relationship Between ROE And 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 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.

Companhia de Saneamento de Minas Gerais' Earnings Growth And 19% ROE

To begin with, Companhia de Saneamento de Minas Gerais seems to have a respectable ROE. On comparing with the average industry ROE of 13% the company's ROE looks pretty remarkable. This probably laid the ground for Companhia de Saneamento de Minas Gerais' moderate 15% net income growth seen over the past five years.

When you consider the fact that the industry earnings have shrunk at a rate of 0.3% in the same 5-year period, the company's net income growth is pretty remarkable.

Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Companhia de Saneamento de Minas Gerais''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Companhia de Saneamento de Minas Gerais Using Its Retained Earnings Effectively?

Companhia de Saneamento de Minas Gerais has a healthy combination of a moderate three-year median payout ratio of 46% (or a retention ratio of 54%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.

Moreover, Companhia de Saneamento de Minas Gerais 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. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 37% over the next three years. Still forecasts suggest that Companhia de Saneamento de Minas Gerais' future ROE will drop to 12% even though the the company's payout ratio is expected to decrease. This suggests that there could be other factors could driving the anticipated decline in the company's ROE.

Summary

Overall, we are quite pleased with Companhia de Saneamento de Minas Gerais' performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. With that said, on studying the latest analyst forecasts, we found that while the company has seen growth in its past earnings, analysts expect its future earnings to shrink. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.