This analysis is intended to introduce important early concepts to people who are starting to invest and want to begin learning the link between Sanrhea Technical Textiles Ltd (BOM:514280)’s return fundamentals and stock market performance.
With an ROE of 8.81%, Sanrhea Technical Textiles Ltd (BOM:514280) returned in-line to its own industry which delivered 7.55% over the past year. However, whether this ROE is actually impressive depends on if it can be maintained. This can be measured by looking at the company’s financial leverage. With more debt, 514280 can invest even more and earn more money, thus pushing up its returns. However, ROE only measures returns against equity, not debt. This can be distorted, so let’s take a look at it further. Check out our latest analysis for Sanrhea Technical Textiles
Breaking down Return on Equity
Firstly, Return on Equity, or ROE, is simply the percentage of last years’ earning against the book value of shareholders’ equity. For example, if the company invests ₹1 in the form of equity, it will generate ₹0.088 in earnings from this. If investors diversify their portfolio by industry, they may want to maximise their return in the Textiles sector by investing in the highest returning stock. However, this can be deceiving as each company has varying costs of equity and debt levels, which could exaggeratedly push up ROE at the same time as accumulating high interest expense.
Return on Equity = Net Profit ÷ Shareholders Equity
ROE is measured against cost of equity in order to determine the efficiency of Sanrhea Technical Textiles’s equity capital deployed. Its cost of equity is 14.23%. This means Sanrhea Technical Textiles’s returns actually do not cover its own cost of equity, with a discrepancy of -5.42%. This isn’t sustainable as it implies, very simply, that the company pays more for its capital than what it generates in return. ROE can be dissected into three distinct ratios: net profit margin, asset turnover, and financial leverage. This is called the Dupont Formula:
Dupont Formula
ROE = profit margin × asset turnover × financial leverage
ROE = (annual net profit ÷ sales) × (sales ÷ assets) × (assets ÷ shareholders’ equity)
ROE = annual net profit ÷ shareholders’ equity
Basically, profit margin measures how much of revenue trickles down into earnings which illustrates how efficient the business is with its cost management. The other component, asset turnover, illustrates how much revenue Sanrhea Technical Textiles can make from its asset base. And finally, financial leverage is simply how much of assets are funded by equity, which exhibits how sustainable the company’s capital structure is. We can assess whether Sanrhea Technical Textiles is fuelling ROE by excessively raising debt. Ideally, Sanrhea Technical Textiles should have a balanced capital structure, which we can check by looking at the historic debt-to-equity ratio of the company. Currently the ratio stands at 140.80%, which is relatively balanced. This means Sanrhea Technical Textiles has not taken on excessive leverage, and its above-average ROE is driven by its ability to grow its profit without a significant debt burden.
Next Steps:
ROE is a simple yet informative ratio, illustrating the various components that each measure the quality of the overall stock. Sanrhea Technical Textiles’s above-industry ROE is noteworthy, but it was not high enough to cover its own cost of equity. ROE is a helpful signal, but it is definitely not sufficient on its own to make an investment decision.
For Sanrhea Technical Textiles, I’ve compiled three important factors you should further research:
- Financial Health: Does it have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
- Future Earnings: How does Sanrhea Technical Textiles’s growth rate compare to its peers and the wider market? Dig deeper into the analyst consensus number for the upcoming years by interacting with our free analyst growth expectation chart.
- Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Sanrhea Technical Textiles? Explore our interactive list of stocks with large growth potential to get an idea of what else is out there you may be missing!