Wittchen S.A.'s (WSE:WTN) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?

Wittchen (WSE:WTN) has had a great run on the share market with its stock up by a significant 35% over the last three months. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Specifically, we decided to study Wittchen's ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Wittchen

How Is ROE Calculated?

The formula for ROE is:

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

So, based on the above formula, the ROE for Wittchen is:

15% = zł23m ÷ zł151m (Based on the trailing twelve months to September 2020).

The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every PLN1 worth of equity, the company was able to earn PLN0.15 in profit.

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.

Wittchen's Earnings Growth And 15% ROE

To begin with, Wittchen seems to have a respectable ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 15%. Despite the moderate return on equity, Wittchen has posted a net income growth of 3.2% over the past five years. A few likely reasons that could be keeping earnings growth low are - the company has a high payout ratio or the business has allocated capital poorly, for instance.

Next, on comparing with the industry net income growth, we found that Wittchen's reported growth was lower than the industry growth of 26% in the same period, which is not something we like to see.

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

Is Wittchen Using Its Retained Earnings Effectively?

The high three-year median payout ratio of 59% (that is, the company retains only 41% of its income) over the past three years for Wittchen suggests that the company's earnings growth was lower as a result of paying out a majority of its earnings.

In addition, Wittchen has been paying dividends over a period of five years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.

Summary

On the whole, we do feel that Wittchen has some positive attributes. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return. Investors could have benefitted from the high ROE, had the company been reinvesting more of its earnings. As discussed earlier, the company is retaining a small portion of its profits. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. Our risks dashboard would have the 3 risks we have identified for Wittchen.

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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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