ecotel communication ag's (ETR:E4C) On An Uptrend But Financial Prospects Look Pretty Weak: Is The Stock Overpriced?

ecotel communication ag's (ETR:E4C) stock is up by a considerable 44% over the past three months. We, however wanted to have a closer look at its key financial indicators as the markets usually pay for long-term fundamentals, and in this case, they don't look very promising. In this article, we decided to focus on ecotel communication ag's ROE.

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.

See our latest analysis for ecotel communication ag

How Do You 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 ecotel communication ag is:

6.9% = €1.6m ÷ €23m (Based on the trailing twelve months to September 2020).

The 'return' is the yearly profit. That means that for every €1 worth of shareholders' equity, the company generated €0.07 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. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.

ecotel communication ag's Earnings Growth And 6.9% ROE

At first glance, ecotel communication ag's ROE doesn't look very promising. Next, when compared to the average industry ROE of 12%, the company's ROE leaves us feeling even less enthusiastic. Therefore, it might not be wrong to say that the five year net income decline of 52% seen by ecotel communication ag was probably the result of it having a lower ROE. However, there could also be other factors causing the earnings to decline. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

That being said, we compared ecotel communication ag's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 4.6% in the same period.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. 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 ecotel communication ag is trading on a high P/E or a low P/E, relative to its industry.

Is ecotel communication ag Making Efficient Use Of Its Profits?

With a three-year median payout ratio as high as 109%,ecotel communication ag's shrinking earnings don't come as a surprise as the company is paying a dividend which is beyond its means. Its usually very hard to sustain dividend payments that are higher than reported profits. To know the 4 risks we have identified for ecotel communication ag visit our risks dashboard for free.

In addition, ecotel communication ag has been paying dividends over a period of six years suggesting that keeping up dividend payments is preferred by the management even though earnings have been in decline.

Summary

In total, we would have a hard think before deciding on any investment action concerning ecotel communication ag. Particularly, its ROE is a huge disappointment, not to mention its lack of proper reinvestment into the business. As a result its earnings growth has also been quite disappointing. So far, we've only made a quick discussion around the company's earnings growth. To gain further insights into ecotel communication ag's past profit growth, check out this visualization 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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