Can Balmer Lawrie & Co. Ltd.'s (NSE:BALMLAWRIE) Weak Financials Pull The Plug On The Stock's Current Momentum On Its Share Price?

Balmer Lawrie's (NSE:BALMLAWRIE) stock is up by a considerable 17% over the past three months. However, we decided to pay close attention to its weak financials as we are doubtful that the current momentum will keep up, given the scenario. Specifically, we decided to study Balmer Lawrie's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Balmer Lawrie

How To Calculate Return On Equity?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Balmer Lawrie is:

7.4% = ₹1.1b ÷ ₹15b (Based on the trailing twelve months to September 2020).

The 'return' is the amount earned after tax over the last twelve months. That means that for every ₹1 worth of shareholders' equity, the company generated ₹0.07 in profit.

Why Is ROE Important For Earnings Growth?

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

Balmer Lawrie's Earnings Growth And 7.4% ROE

As you can see, Balmer Lawrie's ROE looks pretty weak. Further, we noted that the company's ROE is similar to the industry average of 8.1%. Given the low ROE Balmer Lawrie's five year net income decline of 4.4% is not surprising.

So, as a next step, we compared Balmer Lawrie's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 5.1% in the same period.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Balmer Lawrie is trading on a high P/E or a low P/E, relative to its industry.

Is Balmer Lawrie Efficiently Re-investing Its Profits?

Balmer Lawrie's declining earnings is not surprising given how the company is spending most of its profits in paying dividends, judging by its three-year median payout ratio of 69% (or a retention ratio of 31%). With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. Our risks dashboard should have the 2 risks we have identified for Balmer Lawrie.

In addition, Balmer Lawrie has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.

Conclusion

Overall, we would be extremely cautious before making any decision on Balmer Lawrie. Because the company is not reinvesting much into the business, and given the low ROE, it's not surprising to see the lack or absence of growth in its earnings. Up till now, we've only made a short study of the company's growth data. You can do your own research on Balmer Lawrie and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.

When trading Balmer Lawrie 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.