Are Strong Financial Prospects The Force That Is Driving The Momentum In Companhia de Saneamento Básico do Estado de São Paulo - SABESP's BVMF:SBSP3) Stock?

Companhia de Saneamento Básico do Estado de São Paulo - SABESP (BVMF:SBSP3) has had a great run on the share market with its stock up by a significant 24% over the last three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Specifically, we decided to study Companhia de Saneamento Básico do Estado de São Paulo - SABESP's ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Trump has pledged to "unleash" American oil and gas and these 15 US stocks have developments that are poised to benefit.

How To Calculate Return On Equity?

Return on equity 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 Companhia de Saneamento Básico do Estado de São Paulo - SABESP is:

28% = R$11b ÷ R$40b (Based on the trailing twelve months to June 2025).

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$0.28 in profit.

View our latest analysis for Companhia de Saneamento Básico do Estado de São Paulo - SABESP

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.

A Side By Side comparison of Companhia de Saneamento Básico do Estado de São Paulo - SABESP's Earnings Growth And 28% ROE

At first glance, Companhia de Saneamento Básico do Estado de São Paulo - SABESP seems to have a decent ROE. Especially when compared to the industry average of 9.4% the company's ROE looks pretty impressive. Probably as a result of this, Companhia de Saneamento Básico do Estado de São Paulo - SABESP was able to see an impressive net income growth of 40% over the last 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.

As a next step, we compared Companhia de Saneamento Básico do Estado de São Paulo - SABESP's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 15%.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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 SBSP3 fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Companhia de Saneamento Básico do Estado de São Paulo - SABESP Efficiently Re-investing Its Profits?

The three-year median payout ratio for Companhia de Saneamento Básico do Estado de São Paulo - SABESP is 27%, which is moderately low. The company is retaining the remaining 73%. By the looks of it, the dividend is well covered and Companhia de Saneamento Básico do Estado de São Paulo - SABESP is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.

Besides, Companhia de Saneamento Básico do Estado de São Paulo - SABESP 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 56% over the next three years. Accordingly, the expected increase in the payout ratio explains the expected decline in the company's ROE to 18%, over the same period.

Conclusion

On the whole, we feel that Companhia de Saneamento Básico do Estado de São Paulo - SABESP's performance has been quite good. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.