Munjal Showa Limited's (NSE:MUNJALSHOW) Financials Are Too Obscure To Link With Current Share Price Momentum: What's In Store For the Stock?

Munjal Showa's (NSE:MUNJALSHOW) stock is up by 6.9% over the past three months. However, the company's financials look a bit inconsistent and market outcomes are ultimately driven by long-term fundamentals, meaning that the stock could head in either direction. Particularly, we will be paying attention to Munjal Showa's ROE today.

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.

View our latest analysis for Munjal Showa

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 Munjal Showa is:

5.0% = ₹307m ÷ ₹6.2b (Based on the trailing twelve months to December 2020).

The 'return' is the income the business earned over the last year. That means that for every ₹1 worth of shareholders' equity, the company generated ₹0.05 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. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

Munjal Showa's Earnings Growth And 5.0% ROE

It is quite clear that Munjal Showa's ROE is rather low. Even when compared to the industry average of 6.7%, the ROE figure is pretty disappointing. For this reason, Munjal Showa's five year net income decline of 12% is not surprising given its lower ROE. We reckon that there could also be other factors at play here. Such as - low earnings retention or poor allocation of capital.

Next, when we compared with the industry, which has shrunk its earnings at a rate of 0.9% in the same period, we still found Munjal Showa's performance to be quite bleak, because the company has been shrinking its earnings faster than the industry.

Earnings growth is an important metric to consider when valuing a stock. 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. If you're wondering about Munjal Showa's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Munjal Showa Making Efficient Use Of Its Profits?

Despite having a normal three-year median payout ratio of 29% (where it is retaining 71% of its profits), Munjal Showa has seen a decline in earnings as we saw above. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Moreover, Munjal Showa has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth.

Summary

On the whole, we feel that the performance shown by Munjal Showa can be open to many interpretations. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. Our risks dashboard would have the 3 risks we have identified for Munjal Showa.

When trading Munjal Showa or any other investment, use the platform considered by many to be the Professional's Gateway to the Worlds Market, Interactive Brokers. You get the lowest-cost* trading on stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

This article by Simply Wall St is general in nature. 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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.