Is Elecon Engineering Company Limited's (NSE:ELECON) Recent Stock Performance Tethered To Its Strong Fundamentals?

Most readers would already be aware that Elecon Engineering's (NSE:ELECON) stock increased significantly by 33% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to Elecon Engineering'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Elecon Engineering

How Is ROE Calculated?

The formula for ROE is:

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

So, based on the above formula, the ROE for Elecon Engineering is:

22% = ₹3.6b ÷ ₹16b (Based on the trailing twelve months to March 2024).

The 'return' is the profit over the last twelve months. That means that for every ₹1 worth of shareholders' equity, the company generated ₹0.22 in profit.

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

Elecon Engineering's Earnings Growth And 22% ROE

To start with, Elecon Engineering's ROE looks acceptable. Further, the company's ROE compares quite favorably to the industry average of 13%. Probably as a result of this, Elecon Engineering was able to see an impressive net income growth of 40% over the last five years. We reckon that there could also be other factors at play here. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

As a next step, we compared Elecon Engineering'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 27%.

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). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Elecon Engineering fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Elecon Engineering Using Its Retained Earnings Effectively?

Elecon Engineering's three-year median payout ratio to shareholders is 8.7%, which is quite low. This implies that the company is retaining 91% of its profits. So it looks like Elecon Engineering is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Moreover, Elecon Engineering is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years.

Conclusion

Overall, we are quite pleased with Elecon Engineering's performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. 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. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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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