Is Weakness In Emmi AG (VTX:EMMN) Stock A Sign That The Market Could be Wrong Given Its Strong Financial Prospects?

It is hard to get excited after looking at Emmi's (VTX:EMMN) recent performance, when its stock has declined 5.2% over the past three months. However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. Particularly, we will be paying attention to Emmi's ROE today.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Emmi

How Is ROE Calculated?

ROE 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 Emmi is:

13% = CHF172m ÷ CHF1.3b (Based on the trailing twelve months to June 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 CHF0.13 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

Emmi's Earnings Growth And 13% ROE

At first glance, Emmi seems to have a decent ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 13%. Consequently, this likely laid the ground for the decent growth of 10% seen over the past five years by Emmi.

As a next step, we compared Emmi'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 3.2%.

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). Doing so will help them establish if the stock's future looks promising or ominous. What is EMMN worth today? The intrinsic value infographic in our free research report helps visualize whether EMMN is currently mispriced by the market.

Is Emmi Making Efficient Use Of Its Profits?

In Emmi's case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 23% (or a retention ratio of 77%), which suggests that the company is investing most of its profits to grow its business.

Additionally, Emmi 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 37% over the next three years. Regardless, the ROE is not expected to change much for the company despite the higher expected payout ratio.

Conclusion

On the whole, we feel that Emmi's performance has been quite good. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. We also studied the latest analyst forecasts and found that the company's earnings growth is expected be similar to its current growth rate. 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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