ERG Spólka Akcyjna (WSE:ERG) Stock Is Going Strong But Fundamentals Look Uncertain: What Lies Ahead ?

ERG Spólka Akcyjna (WSE:ERG) has had a great run on the share market with its stock up by a significant 10% over the last three months. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. Particularly, we will be paying attention to ERG Spólka Akcyjna's ROE today.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for ERG Spólka Akcyjna

How To Calculate Return On Equity?

ROE can be calculated by using the formula:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for ERG Spólka Akcyjna is:

7.2% = zł2.7m ÷ zł38m (Based on the trailing twelve months to September 2020).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every PLN1 worth of equity, the company was able to earn PLN0.07 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. 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.

ERG Spólka Akcyjna's Earnings Growth And 7.2% ROE

When you first look at it, ERG Spólka Akcyjna's ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 8.6%, we may spare it some thought. Having said that, ERG Spólka Akcyjna's five year net income decline rate was 26%. Remember, the company's ROE is a bit low to begin with. So that's what might be causing earnings growth to shrink.

Next, when we compared with the industry, which has shrunk its earnings at a rate of 9.2% in the same period, we still found ERG Spólka Akcyjna's performance to be quite bleak, because the company has been shrinking its earnings faster than the industry.

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. Is ERG Spólka Akcyjna fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is ERG Spólka Akcyjna Efficiently Re-investing Its Profits?

While the company did payout a portion of its dividend in the past, it currently doesn't pay a dividend. This implies that potentially all of its profits are being reinvested in the business.

Conclusion

Overall, we have mixed feelings about ERG Spólka Akcyjna. 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 2 risks we have identified for ERG Spólka Akcyjna visit our risks dashboard for free.

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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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