Zehnder Group AG's (VTX:ZEHN) Stock Is Going Strong: Is the Market Following Fundamentals?

Most readers would already be aware that Zehnder Group's (VTX:ZEHN) stock increased significantly by 47% over the past three months. Since the market usually pay for a company’s long-term fundamentals, we decided to study the company’s key performance indicators to see if they could be influencing the market. Particularly, we will be paying attention to Zehnder Group's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Zehnder Group

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 Zehnder Group is:

12% = €40m ÷ €327m (Based on the trailing twelve months to December 2020).

The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each CHF1 of shareholders' capital it has, the company made CHF0.12 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.

A Side By Side comparison of Zehnder Group's Earnings Growth And 12% ROE

To begin with, Zehnder Group seems to have a respectable ROE. Even so, when compared with the average industry ROE of 16%, we aren't very excited. That being the case, the significant five-year 31% net income growth reported by Zehnder Group comes as a pleasant surprise. We believe that there might be other aspects that are positively influencing the company's earnings 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. However, not to forget, the company does have a decent ROE to begin with, just that it is lower than the industry average. So this certainly also provides some context to the high earnings growth seen by the company.

Next, on comparing with the industry net income growth, we found that Zehnder Group's growth is quite high when compared to the industry average growth of 8.9% in the same period, which is great to see.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. What is ZEHN worth today? The intrinsic value infographic in our free research report helps visualize whether ZEHN is currently mispriced by the market.

Is Zehnder Group Making Efficient Use Of Its Profits?

Zehnder Group's three-year median payout ratio to shareholders is 25%, which is quite low. This implies that the company is retaining 75% of its profits. So it looks like Zehnder Group is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Additionally, Zehnder Group 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. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 38% over the next three years. Accordingly, the expected increase in the payout ratio explains the expected decline in the company's ROE to 6.8%, over the same period.

Summary

On the whole, we feel that Zehnder Group's performance has been quite good. Specifically, we like that it has been reinvesting a high portion of its profits at a moderate rate of return, resulting in earnings expansion. 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. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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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.
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