Does The Market Have A Low Tolerance For OPC Energy Ltd.'s (TLV:OPCE) Mixed Fundamentals?

OPC Energy (TLV:OPCE) has had a rough three months with its share price down 25%. It is possible that the markets have ignored the company's differing financials and decided to lean-in to the negative sentiment. Long-term fundamentals are usually what drive market outcomes, so it's worth paying close attention. Specifically, we decided to study OPC Energy's ROE in this article.

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. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

See our latest analysis for OPC Energy

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 OPC Energy is:

2.0% = ₪85m ÷ ₪4.3b (Based on the trailing twelve months to September 2022).

The 'return' is the amount earned after tax over the last twelve months. That means that for every ₪1 worth of shareholders' equity, the company generated ₪0.02 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. 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. 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.

OPC Energy's Earnings Growth And 2.0% ROE

As you can see, OPC Energy's ROE looks pretty weak. Even when compared to the industry average of 3.4%, the ROE figure is pretty disappointing. Therefore, it might not be wrong to say that the five year net income decline of 49% seen by OPC Energy was possibly a result of it having a lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

Furthermore, even when compared to the industry, which has been shrinking its earnings at a rate 12% in the same period, we found that OPC Energy's performance is pretty disappointing, as it suggests that the company has been shrunk its earnings at a rate faster than the industry.

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 OPC Energy fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is OPC Energy Efficiently Re-investing Its Profits?

OPC Energy doesn't pay any dividend, meaning that potentially all of its profits are being reinvested in the business, which doesn't explain why the company's earnings have shrunk if it is retaining all 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.

Conclusion

In total, we're a bit ambivalent about OPC Energy's performance. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. 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. Our risks dashboard would have the 2 risks we have identified for OPC Energy.

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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.