Is Compañía Chilena de Fósforos S.A.'s (SNSE:FOSFOROS) Recent Performancer Underpinned By Weak Financials?

Compañía Chilena de Fósforos (SNSE:FOSFOROS) has had a rough three months with its share price down 3.8%. To decide if this trend could continue, we decided to look at its weak fundamentals as they shape the long-term market trends. Particularly, we will be paying attention to Compañía Chilena de Fósforos' ROE today.

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.

View our latest analysis for Compañía Chilena de Fósforos

How To Calculate Return On Equity?

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 Compañía Chilena de Fósforos is:

2.5% = CL$1.6b ÷ CL$64b (Based on the trailing twelve months to December 2020).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each CLP1 of shareholders' capital it has, the company made CLP0.03 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Compañía Chilena de Fósforos' Earnings Growth And 2.5% ROE

It is quite clear that Compañía Chilena de Fósforos' ROE is rather low. Not just that, even compared to the industry average of 14%, the company's ROE is entirely unremarkable. For this reason, Compañía Chilena de Fósforos' five year net income decline of 31% is not surprising given its lower ROE. We reckon that there could also be other factors at play here. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

However, when we compared Compañía Chilena de Fósforos' growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 7.1% in the same period. This is quite worrisome.

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. This then helps them determine if the stock is placed for a bright or bleak future. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Compañía Chilena de Fósforos is trading on a high P/E or a low P/E, relative to its industry.

Is Compañía Chilena de Fósforos Making Efficient Use Of Its Profits?

With a high three-year median payout ratio of 91% (implying that 9.1% of the profits are retained), most of Compañía Chilena de Fósforos' profits are being paid to shareholders, which explains the company's shrinking earnings. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. To know the 3 risks we have identified for Compañía Chilena de Fósforos visit our risks dashboard for free.

In addition, Compañía Chilena de Fósforos has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.

Conclusion

In total, we would have a hard think before deciding on any investment action concerning Compañía Chilena de Fósforos. The low ROE, combined with the fact that the company is paying out almost if not all, of its profits as dividends, has resulted in the lack or absence of growth in its earnings. Until now, we have only just grazed the surface of the company's past performance by looking at the company's fundamentals. You can do your own research on Compañía Chilena de Fósforos and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.

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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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