Forest Water Environmental Engineering Co., Ltd.'s (TWSE:8473) Stock Is Rallying But Financials Look Ambiguous: Will The Momentum Continue?

Forest Water Environmental Engineering (TWSE:8473) has had a great run on the share market with its stock up by a significant 19% over the last month. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. Particularly, we will be paying attention to Forest Water Environmental Engineering's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Forest Water Environmental Engineering

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 Forest Water Environmental Engineering is:

4.0% = NT$317m ÷ NT$7.8b (Based on the trailing twelve months to March 2024).

The 'return' refers to a company's earnings over the last year. That means that for every NT$1 worth of shareholders' equity, the company generated NT$0.04 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

A Side By Side comparison of Forest Water Environmental Engineering's Earnings Growth And 4.0% ROE

At first glance, Forest Water Environmental Engineering's ROE doesn't look very promising. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 8.7%. Therefore, it might not be wrong to say that the five year net income decline of 48% seen by Forest Water Environmental Engineering was probably the result of it having a lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For example, it is possible that the business has allocated capital poorly or that the company has a very high payout ratio.

So, as a next step, we compared Forest Water Environmental Engineering's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 23% over the last few years.

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about Forest Water Environmental Engineering's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Forest Water Environmental Engineering Efficiently Re-investing Its Profits?

While the company did payout a portion of its dividend in the past, it currently doesn't pay a regular dividend. This implies that potentially all of its profits are being reinvested in the business.

Summary

Overall, we have mixed feelings about Forest Water Environmental Engineering. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. Until now, we have only just grazed the surface of the company's past performance by looking at the company's fundamentals. So it may be worth checking this free detailed graph of Forest Water Environmental Engineering's past earnings, as well as revenue and cash flows to get a deeper insight into the company's performance.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com