Ambea AB (publ)'s (STO:AMBEA) Stock Has Been Sliding But Fundamentals Look Strong: Is The Market Wrong?

Ambea (STO:AMBEA) has had a rough week with its share price down 8.8%. However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. In this article, we decided to focus on Ambea'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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Ambea

How Is ROE Calculated?

The formula for return on equity is:

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

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

13% = kr604m ÷ kr4.8b (Based on the trailing twelve months to September 2024).

The 'return' refers to a company's earnings over the last year. That means that for every SEK1 worth of shareholders' equity, the company generated SEK0.13 in profit.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.

Ambea's Earnings Growth And 13% ROE

To begin with, Ambea seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 10%. This certainly adds some context to Ambea's decent 15% net income growth seen over the past five years.

Next, on comparing with the industry net income growth, we found that Ambea's reported growth was lower than the industry growth of 20% over the last few years, which is not something we like to see.

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 Ambea is trading on a high P/E or a low P/E, relative to its industry.

Is Ambea Making Efficient Use Of Its Profits?

With a three-year median payout ratio of 32% (implying that the company retains 68% of its profits), it seems that Ambea is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Moreover, Ambea is determined to keep sharing its profits with shareholders which we infer from its long history of seven years of paying a dividend. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 26%. As a result, Ambea's ROE is not expected to change by much either, which we inferred from the analyst estimate of 13% for future ROE.

Conclusion

In total, we are pretty happy with Ambea's performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a respectable growth in its earnings. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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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.