Are Enel Distribucion Chile S.A.'s (SNSE:ENELDXCH) Mixed Financials Driving The Negative Sentiment?

It is hard to get excited after looking at Enel Distribucion Chile's (SNSE:ENELDXCH) recent performance, when its stock has declined 9.7% over the past week. It is possible that the markets have ignored the company's differing financials and decided to lean-in to the negative sentiment. Stock prices are usually driven by a company’s financial performance over the long term, and therefore we decided to pay more attention to the company's financial performance. In this article, we decided to focus on Enel Distribucion Chile's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Our analysis indicates that ENELDXCH is potentially overvalued!

How Do You 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 Enel Distribucion Chile is:

3.5% = CL$24b ÷ CL$693b (Based on the trailing twelve months to September 2022).

The 'return' is the yearly profit. So, this means that for every CLP1 of its shareholder's investments, the company generates a profit of CLP0.04.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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. 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.

Enel Distribucion Chile's Earnings Growth And 3.5% ROE

As you can see, Enel Distribucion Chile's ROE looks pretty weak. Not just that, even compared to the industry average of 15%, the company's ROE is entirely unremarkable. Given the circumstances, the significant decline in net income by 26% seen by Enel Distribucion Chile over the last five years is not surprising. We reckon that there could also be other factors at play here. Such as - low earnings retention or poor allocation of capital.

However, when we compared Enel Distribucion Chile's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 5.5% in the same period. This is quite worrisome.

Earnings growth is an important metric to consider when valuing a stock. 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 Enel Distribucion Chile fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Enel Distribucion Chile Using Its Retained Earnings Effectively?

Looking at its three-year median payout ratio of 35% (or a retention ratio of 65%) which is pretty normal, Enel Distribucion Chile's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

In addition, Enel Distribucion Chile 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.

Summary

On the whole, we feel that the performance shown by Enel Distribucion Chile can be open to many interpretations. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. You can see the 4 risks we have identified for Enel Distribucion Chile by visiting our risks dashboard for free on our platform here.

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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.