EDP Renováveis, S.A. (ELI:EDPR) Stock's Been Sliding But Fundamentals Look Decent: Will The Market Correct The Share Price In The Future?

It is hard to get excited after looking at EDP Renováveis' (ELI:EDPR) recent performance, when its stock has declined 29% over the past month. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Particularly, we will be paying attention to EDP Renováveis' 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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for EDP Renováveis

How Do You 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 EDP Renováveis is:

7.9% = €683m ÷ €8.6b (Based on the trailing twelve months to December 2020).

The 'return' is the yearly profit. That means that for every €1 worth of shareholders' equity, the company generated €0.08 in profit.

What Is The Relationship Between ROE And Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. Assuming all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

EDP Renováveis' Earnings Growth And 7.9% ROE

When you first look at it, EDP Renováveis' ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 7.9%, we may spare it some thought. Moreover, we are quite pleased to see that EDP Renováveis' net income grew significantly at a rate of 31% over the last five years. Taking into consideration that the ROE is not particularly high, we reckon that there could also be other factors at play which could be influencing the company's growth. For instance, the company has a low payout ratio or is being managed efficiently.

We then compared EDP Renováveis' net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 8.8% 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. Is EDP Renováveis fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is EDP Renováveis Efficiently Re-investing Its Profits?

EDP Renováveis' three-year median payout ratio to shareholders is 18%, which is quite low. This implies that the company is retaining 82% of its profits. So it looks like EDP Renováveis is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Additionally, EDP Renováveis has paid dividends over a period of eight years which means that the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 18%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 7.2%.

Conclusion

Overall, we feel that EDP Renováveis certainly does have some positive factors to consider. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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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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