Action Construction Equipment Limited's (NSE:ACE) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?

With its stock down 5.5% over the past three months, it is easy to disregard Action Construction Equipment (NSE:ACE). But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Specifically, we decided to study Action Construction Equipment's ROE in this article.

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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

Check out our latest analysis for Action Construction Equipment

How Is ROE Calculated?

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 Action Construction Equipment is:

27% = ₹3.3b ÷ ₹12b (Based on the trailing twelve months to March 2024).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each ₹1 of shareholders' capital it has, the company made ₹0.27 in profit.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

Action Construction Equipment's Earnings Growth And 27% ROE

To begin with, Action Construction Equipment seems to have a respectable ROE. Especially when compared to the industry average of 15% the company's ROE looks pretty impressive. This certainly adds some context to Action Construction Equipment's exceptional 40% net income growth seen over the past five years. However, there could also be other causes behind this growth. Such as - high earnings retention or an efficient management in place.

As a next step, we compared Action Construction Equipment's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 25%.

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. If you're wondering about Action Construction Equipment's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Action Construction Equipment Using Its Retained Earnings Effectively?

Action Construction Equipment's ' three-year median payout ratio is on the lower side at 6.9% implying that it is retaining a higher percentage (93%) of its profits. This suggests that the management is reinvesting most of the profits to grow the business as evidenced by the growth seen by the company.

Besides, Action Construction Equipment has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders.

Summary

Overall, we are quite pleased with Action Construction Equipment's performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.

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