Autostrade Meridionali S.p.A.'s (BIT:AUTME) Stock Is Rallying But Financials Look Ambiguous: Will The Momentum Continue?

Autostrade Meridionali's (BIT:AUTME) stock is up by a considerable 15% over the past month. But the company's key financial indicators appear to be differing across the board and that makes us question whether or not the company's current share price momentum can be maintained. In this article, we decided to focus on Autostrade Meridionali'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. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

View our latest analysis for Autostrade Meridionali

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 Autostrade Meridionali is:

3.4% = €1.7m ÷ €49m (Based on the trailing twelve months to September 2023).

The 'return' is the income the business earned over the last year. So, this means that for every €1 of its shareholder's investments, the company generates a profit of €0.03.

Why Is ROE Important For Earnings Growth?

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

Autostrade Meridionali's Earnings Growth And 3.4% ROE

It is hard to argue that Autostrade Meridionali's ROE is much good in and of itself. Even compared to the average industry ROE of 7.4%, the company's ROE is quite dismal. Given the circumstances, the significant decline in net income by 17% seen by Autostrade Meridionali over the last five years is not surprising. We reckon that there could also be other factors at play here. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

Next, when we compared with the industry, which has shrunk its earnings at a rate of 13% in the same 5-year period, we still found Autostrade Meridionali's performance to be quite bleak, because the company has been shrinking its earnings faster than the industry.

Earnings growth is an important metric to consider when valuing a stock. 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 Autostrade Meridionali is trading on a high P/E or a low P/E, relative to its industry.

Is Autostrade Meridionali Efficiently Re-investing Its Profits?

Despite having a normal three-year median payout ratio of 40% (where it is retaining 60% of its profits), Autostrade Meridionali has seen a decline in earnings as we saw above. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Moreover, Autostrade Meridionali has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth.

Summary

On the whole, we feel that the performance shown by Autostrade Meridionali 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. To know the 5 risks we have identified for Autostrade Meridionali visit our risks dashboard for free.

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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.