Companhia de Saneamento Básico do Estado de São Paulo - SABESP's (BVMF:SBSP3) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?

Most readers would already be aware that Companhia de Saneamento Básico do Estado de São Paulo - SABESP's (BVMF:SBSP3) stock increased significantly by 15% over the past month. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Particularly, we will be paying attention to Companhia de Saneamento Básico do Estado de São Paulo - SABESP's ROE today.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

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

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

12% = R$3.6b ÷ R$31b (Based on the trailing twelve months to March 2024).

The 'return' is the yearly profit. Another way to think of that is that for every R$1 worth of equity, the company was able to earn R$0.12 in profit.

What Has ROE Got To Do With Earnings Growth?

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

Companhia de Saneamento Básico do Estado de São Paulo - SABESP's Earnings Growth And 12% ROE

It is quite clear that Companhia de Saneamento Básico do Estado de São Paulo - SABESP's ROE is rather low. An industry comparison shows that the company's ROE is not much different from the industry average of 12% either. Thus, the low ROE certainly provides some context to Companhia de Saneamento Básico do Estado de São Paulo - SABESP's very little net income growth of 5.0% seen over the past five years.

Given that the industry shrunk its earnings at a rate of 0.3% over the last few years, the net income growth of the company is quite impressive.

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. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Companhia de Saneamento Básico do Estado de São Paulo - SABESP's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

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

While Companhia de Saneamento Básico do Estado de São Paulo - SABESP has a decent three-year median payout ratio of 27% (or a retention ratio of 73%), it has seen very little growth in earnings. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Moreover, Companhia de Saneamento Básico do Estado de São Paulo - SABESP has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 27%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 14%.

Conclusion

In total, it does look like Companhia de Saneamento Básico do Estado de São Paulo - SABESP has some positive aspects to its business. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. 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. 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.

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