Declining Stock and Decent Financials: Is The Market Wrong About Zalando SE (ETR:ZAL)?

Zalando (ETR:ZAL) has had a rough three months with its share price down 13%. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. In this article, we decided to focus on Zalando's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for Zalando

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 Zalando is:

4.8% = €110m ÷ €2.3b (Based on the trailing twelve months to September 2023).

The 'return' is the income the business earned over the last year. That means that for every €1 worth of shareholders' equity, the company generated €0.05 in profit.

Why Is ROE Important For 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

Zalando's Earnings Growth And 4.8% ROE

At first glance, Zalando's ROE doesn't look very promising. However, its ROE is similar to the industry average of 4.6%, so we won't completely dismiss the company. We can see that Zalando has grown at a five year net income growth average rate of 4.1%, which is a bit on the lower side. Remember, the company's ROE is not particularly great to begin with. So this could also be one of the reasons behind the company's low growth in earnings.

As a next step, we compared Zalando's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 4.1% 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. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Zalando's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Zalando Making Efficient Use Of Its Profits?

Zalando doesn't pay any dividend, which means that it is retaining all of its earnings. However, there's only been very little earnings growth to show for it. Therefore, there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Summary

In total, it does look like Zalando has some positive aspects to its business. That is, a decent growth in earnings backed by a high rate of reinvestment. However, we do feel that that earnings growth could have been higher if the business were to improve on the low ROE rate. Especially given how the company is reinvesting a huge chunk of its profits. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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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.