pferdewetten.de AG's (ETR:EMH) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?

It is hard to get excited after looking at pferdewetten.de's (ETR:EMH) recent performance, when its stock has declined 11% over the past three months. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. In this article, we decided to focus on pferdewetten.de's ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for pferdewetten.de

How Do You 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 pferdewetten.de is:

23% = €3.7m ÷ €16m (Based on the trailing twelve months to June 2020).

The 'return' refers to a company's earnings over the last year. So, this means that for every €1 of its shareholder's investments, the company generates a profit of €0.23.

What Is The Relationship Between ROE And Earnings Growth?

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

A Side By Side comparison of pferdewetten.de's Earnings Growth And 23% ROE

Firstly, we acknowledge that pferdewetten.de has a significantly high ROE. Second, a comparison with the average ROE reported by the industry of 8.7% also doesn't go unnoticed by us. As you might expect, the 7.6% net income decline reported by pferdewetten.de doesn't bode well with us. Based on this, we feel that there might be other reasons which haven't been discussed so far in this article that could be hampering the company's growth. Such as, the company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.

So, as a next step, we compared pferdewetten.de's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 18% in the same period.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about pferdewetten.de's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is pferdewetten.de Efficiently Re-investing Its Profits?

When we piece together pferdewetten.de's low three-year median payout ratio of 25% (where it is retaining 75% of its profits), calculated for the last three-year period, we are puzzled by the lack of growth. The low payout should mean that the company is retaining most of its earnings and consequently, should see some growth. So there might be other factors at play here which could potentially be hampering growth. For instance, the business has faced some headwinds.

In addition, pferdewetten.de has been paying dividends over a period of four years suggesting that keeping up dividend payments is preferred by the management even though earnings have been in decline. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 37% over the next three years. Consequently, the higher expected payout ratio explains the decline in the company's expected ROE (to 13%) over the same period.

Conclusion

Overall, we feel that pferdewetten.de certainly does have some positive factors to consider. Although, we are disappointed to see a lack of growth in earnings even in spite of a high ROE and and a high reinvestment rate. We believe that there might be some outside factors that could be having a negative impact on the business. Having said that, we studied the latest analyst forecasts, and found that analysts are expecting the company's earnings growth to improve slightly. The company's existing shareholders might have some respite after all. 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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