Declining Stock and Solid Fundamentals: Is The Market Wrong About K2 Infragen Limited (NSE:K2INFRA)?

It is hard to get excited after looking at K2 Infragen's (NSE:K2INFRA) recent performance, when its stock has declined 51% over the past three months. 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. Particularly, we will be paying attention to K2 Infragen'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. Put another way, it reveals the company's success at turning shareholder investments into profits.

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How Do You 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 K2 Infragen is:

15% = ₹107m ÷ ₹691m (Based on the trailing twelve months to September 2024).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every ₹1 worth of equity, the company was able to earn ₹0.15 in profit.

See our latest analysis for K2 Infragen

What Is The Relationship Between ROE And 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

K2 Infragen's Earnings Growth And 15% ROE

To start with, K2 Infragen's ROE looks acceptable. Further, the company's ROE is similar to the industry average of 14%. This certainly adds some context to K2 Infragen's exceptional 51% net income growth seen over the past five years. However, there could also be other drivers behind this growth. Such as - high earnings retention or an efficient management in place.

We then compared K2 Infragen's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 32% in the same 5-year period.

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. 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 K2 Infragen is trading on a high P/E or a low P/E, relative to its industry.

Is K2 Infragen Efficiently Re-investing Its Profits?

Given that K2 Infragen doesn't pay any regular dividends to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.

Conclusion

Overall, we are quite pleased with K2 Infragen'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. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Remember, the price of a stock is also dependent on the perceived risk. Therefore investors must keep themselves informed about the risks involved before investing in any company. To know the 2 risks we have identified for K2 Infragen visit our risks dashboard for free.

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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.