Declining Stock and Decent Financials: Is The Market Wrong About Banco Products (India) Limited (NSE:BANCOINDIA)?

It is hard to get excited after looking at Banco Products (India)'s (NSE:BANCOINDIA) recent performance, when its stock has declined 27% over the past three months. 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. In this article, we decided to focus on Banco Products (India)'s ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Banco Products (India)

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 Banco Products (India) is:

14% = ₹1.3b ÷ ₹9.2b (Based on the trailing twelve months to December 2021).

The 'return' is the income the business earned over the last year. So, this means that for every ₹1 of its shareholder's investments, the company generates a profit of ₹0.14.

What Has ROE Got To Do With 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.

Banco Products (India)'s Earnings Growth And 14% ROE

When you first look at it, Banco Products (India)'s ROE doesn't look that attractive. Although a closer study shows that the company's ROE is higher than the industry average of 11% which we definitely can't overlook. Yet, Banco Products (India) has posted measly growth of 4.7% over the past five years. Remember, the company's ROE is quite low to begin with, just that it is higher than the industry average. Therefore, the low growth in earnings could also be the result of this.

Given that the industry shrunk its earnings at a rate of 1.2% in the same period, the net income growth of the company is quite impressive.

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). 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 Banco Products (India) is trading on a high P/E or a low P/E, relative to its industry.

Is Banco Products (India) Using Its Retained Earnings Effectively?

With a high three-year median payout ratio of 69% (or a retention ratio of 31%), most of Banco Products (India)'s profits are being paid to shareholders. This definitely contributes to the low earnings growth seen by the company.

Additionally, Banco Products (India) has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.

Conclusion

In total, it does look like Banco Products (India) has some positive aspects to its business. Namely, its significant earnings growth, to which its moderate rate of return likely contributed. While the company is paying out most of its earnings as dividends, it has been able to grow its earnings in spite of it, so that's probably a good sign. 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. Our risks dashboard would have the 2 risks we have identified for Banco Products (India).

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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.