With its stock down 13% in the past three months, it’s easy to overlook Birla (NSE: BIRLACORPN). But if you pay close attention, you might find that its leading financial indicators look pretty decent, which could mean the stock could potentially rise in the long run as markets generally reward more resilient long-term fundamentals. In particular, we will pay attention to Birla’s ROE today.
ROE or return on equity is a useful tool for evaluating how effectively a company can generate returns on the investment it has received from its shareholders. In simple terms, it is used to assess the profitability of a company in relation to its equity.
See our latest review for Birla
How do you calculate return on equity?
the return on equity formula is:
Return on equity = Net income (from continuing operations) ÷ Equity
So, based on the above formula, the ROE for Birla is:
11% = ₹6.2b ÷ ₹58b (Based on last twelve months to September 2021).
“Yield” refers to a company’s earnings over the past year. So this means that for every ₹1 of its shareholder’s investment, the company generates a profit of ₹0.11.
What is the relationship between ROE and earnings growth?
So far we have learned that ROE is a measure of a company’s profitability. We now need to assess how much profit the company is reinvesting or “retaining” for future growth, which then gives us an idea of the company’s growth potential. Generally speaking, all things being equal, companies with high return on equity and earnings retention have a higher growth rate than companies that do not share these attributes.
Birla earnings growth and ROE of 11%
When you first look at it, Birla’s ROE doesn’t look so appealing. However, since the company’s ROE is similar to the industry average ROE of 12%, we can spare it some thought. In particular, the outstanding 34% net income growth seen by Birla over the past five years is quite remarkable. Given the slightly weak ROE, it is likely that other factors could be driving this growth. For example, it is possible that the management of the company has made good strategic decisions or that the company has a low payout ratio.
Then, comparing with the industry net income growth, we found that Birla’s growth is quite high compared to the average industry growth of 20% over the same period, which is great to have.
The basis for attaching value to a company is, to a large extent, linked to the growth of its profits. What investors then need to determine is whether the expected earnings growth, or lack thereof, is already priced into the stock price. This will help them determine if the future of the title looks bright or ominous. Is BIRLACORPN correctly valued? This intrinsic business value infographic has everything you need to know.
Is Birla effectively using its retained earnings?
Birla has a very low three-year median payout ratio of 17%, which means that he still has the remaining 83% to reinvest in his business. So, it looks like Birla is massively reinvesting its profits to grow its business, which is reflected in its profit growth.
Moreover, Birla has paid dividends over a period of at least ten years, which means that the company is quite serious about sharing its profits with shareholders. Our latest analyst data shows the company’s future payout ratio is expected to drop to 9.1% over the next three years. Either way, ROE is not expected to change much for the company despite the lower expected payout ratio.
All in all, it seems that Birla has some positive aspects to her business. Despite its low rate of return, the fact that the company reinvests a very large portion of its profits back into its business no doubt contributed to the strong growth in its profits. That said, the company’s earnings growth is expected to slow, as expected in current analyst estimates. For more on the company’s future earnings growth forecast, check out this free analyst forecast report for the company to learn more.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.