Should Weakness in ECOVE Environment Corp.'s (GTSM:6803) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

It is hard to get excited after looking at ECOVE Environment's (GTSM:6803) recent performance, when its stock has declined 2.3% over the past month. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Particularly, we will be paying attention to ECOVE Environment's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for ECOVE Environment

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 ECOVE Environment is:

20% = NT$1.1b ÷ NT$5.4b (Based on the trailing twelve months to September 2020).

The 'return' is the profit over the last twelve months. Another way to think of that is that for every NT$1 worth of equity, the company was able to earn NT$0.20 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. 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.

ECOVE Environment's Earnings Growth And 20% ROE

To start with, ECOVE Environment's ROE looks acceptable. On comparing with the average industry ROE of 5.6% the company's ROE looks pretty remarkable. However, we are curious as to how the high returns still resulted in flat growth for ECOVE Environment in 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. Such as, the company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.

Next, on comparing with the industry net income growth, we found that ECOVE Environment's reported growth was lower than the industry growth of 2.6% in the same period, which is not something we like to see.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for 6803? You can find out in our latest intrinsic value infographic research report.

Is ECOVE Environment Making Efficient Use Of Its Profits?

With a high three-year median payout ratio of 89% (implying that the company keeps only 11% of its income) of its business to reinvest into its business), most of ECOVE Environment's profits are being paid to shareholders, which explains the absence of growth in earnings.

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

Conclusion

Overall, we feel that ECOVE Environment certainly does have some positive factors to consider. However, while the company does have a high ROE, its earnings growth number is quite disappointing. This can be blamed on the fact that it reinvests only a small portion of its profits and pays out the rest as dividends. Up till now, we've only made a short study of the company's growth data. So it may be worth checking this free detailed graph of ECOVE Environment's past earnings, as well as revenue and cash flows to get a deeper insight into the company's performance.

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