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Most readers would already be aware that Surani Steel Tubes’ (NSE:SURANI) stock increased significantly by 44% over the past three months. Given that stock prices are usually aligned with a company’s financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Specifically, we decided to study Surani Steel Tubes’ ROE in this article.
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. Put another way, it reveals the company’s success at turning shareholder investments into profits.
View our latest analysis for Surani Steel Tubes
How To Calculate Return On Equity?
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 Surani Steel Tubes is:
17% = ₹39m ÷ ₹227m (Based on the trailing twelve months to March 2021).
The ‘return’ is the amount earned after tax over the last twelve months. Another way to think of that is that for every ₹1 worth of equity, the company was able to earn ₹0.17 in profit.
Why Is ROE Important For 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. 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.
Surani Steel Tubes’ Earnings Growth And 17% ROE
At first glance, Surani Steel Tubes seems to have a decent ROE. Even when compared to the industry average of 15% the company’s ROE looks quite decent. As you might expect, the 13% net income decline reported by Surani Steel Tubes is a bit of a surprise. So, there might be some other aspects that could explain this. These include low earnings retention or poor allocation of capital.
However, when we compared Surani Steel Tubes’ growth with the industry we found that while the company’s earnings have been shrinking, the industry has seen an earnings growth of 13% in the same period. This is quite worrisome.
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). 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 Surani Steel Tubes is trading on a high P/E or a low P/E, relative to its industry.
Is Surani Steel Tubes Using Its Retained Earnings Effectively?
Surani Steel Tubes doesn’t pay any dividend, meaning that potentially all of its profits are being reinvested in the business, which doesn’t explain why the company’s earnings have shrunk if it is retaining all of its profits. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.
Conclusion
On the whole, we do feel that Surani Steel Tubes has some positive attributes. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return and is reinvesting ma huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that’s preventing growth. While we won’t completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. To know the 3 risks we have identified for Surani Steel Tubes visit our risks dashboard for free.
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 (at) simplywallst.com.
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