Should Weakness in California Water Service Group's (NYSE:CWT) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

With its stock down 5.5% over the past month, it is easy to disregard California Water Service Group (NYSE:CWT). 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. Specifically, we decided to study California Water Service Group's ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

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How Is ROE Calculated?

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 California Water Service Group is:

8.2% = US$134m ÷ US$1.6b (Based on the trailing twelve months to March 2025).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.08 in profit.

Check out our latest analysis for California Water Service Group

What Has ROE Got To Do With 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 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.

A Side By Side comparison of California Water Service Group's Earnings Growth And 8.2% ROE

When you first look at it, California Water Service Group's ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 8.9%, we may spare it some thought. Having said that, California Water Service Group has shown a modest net income growth of 14% over the past five years. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this growth. For instance, the company has a low payout ratio or is being managed efficiently.

As a next step, we compared California Water Service Group's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 8.1%.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. 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 California Water Service Group is trading on a high P/E or a low P/E, relative to its industry.

Is California Water Service Group Efficiently Re-investing Its Profits?

The high three-year median payout ratio of 57% (or a retention ratio of 43%) for California Water Service Group suggests that the company's growth wasn't really hampered despite it returning most of its income to its shareholders.

Moreover, California Water Service Group is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 50% of its profits over the next three years. Accordingly, forecasts suggest that California Water Service Group's future ROE will be 9.1% which is again, similar to the current ROE.

Conclusion

Overall, we feel that California Water Service Group certainly does have some positive factors to consider. That is, quite an impressive growth in earnings. However, the low profit retention means that the company's earnings growth could have been higher, had it been reinvesting a higher portion of its profits. 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. 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. 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.