Eolus Vind AB (publ)'s (STO:EOLU B) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?

Most readers would already be aware that Eolus Vind's (STO:EOLU B) stock increased significantly by 45% over the past three months. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. Specifically, we decided to study Eolus Vind's ROE in this article.

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 Eolus Vind

How Is ROE Calculated?

Return on equity 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 Eolus Vind is:

30% = kr437m ÷ kr1.5b (Based on the trailing twelve months to June 2023).

The 'return' is the income the business earned over the last year. That means that for every SEK1 worth of shareholders' equity, the company generated SEK0.30 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. 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. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Eolus Vind's Earnings Growth And 30% ROE

First thing first, we like that Eolus Vind has an impressive ROE. Additionally, the company's ROE is higher compared to the industry average of 16% which is quite remarkable. Needless to say, we are quite surprised to see that Eolus Vind's net income shrunk at a rate of 13% over the past five years. Based on this, we feel that there might be other reasons which haven't been discussed so far in this article that could be hampering the company's growth. For example, it could be that the company has a high payout ratio or the business has allocated capital poorly, for instance.

However, when we compared Eolus Vind's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 35% in the same period. This is quite worrisome.

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. This then helps them determine if the stock is placed for a bright or bleak future. 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 Eolus Vind is trading on a high P/E or a low P/E, relative to its industry.

Is Eolus Vind Making Efficient Use Of Its Profits?

When we piece together Eolus Vind's low three-year median payout ratio of 14% (where it is retaining 86% of its profits), calculated for the last three-year period, we are puzzled by the lack of growth. This typically shouldn't be the case when a company is retaining most of its earnings. So there might be other factors at play here which could potentially be hampering growth. For instance, the business has faced some headwinds.

Moreover, Eolus Vind 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. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 22% over the next three years. Therefore, the expected rise in the payout ratio explains why the company's ROE is expected to decline to 24% over the same period.

Summary

Overall, we feel that Eolus Vind certainly does have some positive factors to consider. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its growth. In addition, on studying the latest analyst forecasts, we found that the company's earnings are expected to continue to shrink. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.