Power & Instrumental (Gujarat) Limited (NSE:PIGL) Stock Is Going Strong But Fundamentals Look Uncertain: What Lies Ahead ?

Most readers would already be aware that Power & Instrumental (Gujarat)'s (NSE:PIGL) stock increased significantly by 33% over the past three months. But the company's key financial indicators appear to be differing across the board and that makes us question whether or not the company's current share price momentum can be maintained. Specifically, we decided to study Power & Instrumental (Gujarat)'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. Put another way, it reveals the company's success at turning shareholder investments into profits.

Check out our latest analysis for Power & Instrumental (Gujarat)

How To Calculate Return On Equity?

ROE 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 Power & Instrumental (Gujarat) is:

11% = ₹59m ÷ ₹512m (Based on the trailing twelve months to March 2024).

The 'return' is the profit over the last twelve months. Another way to think of that is that for every ₹1 worth of equity, the company was able to earn ₹0.11 in profit.

What Is The Relationship Between ROE And 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.

A Side By Side comparison of Power & Instrumental (Gujarat)'s Earnings Growth And 11% ROE

At first glance, Power & Instrumental (Gujarat)'s ROE doesn't look very promising. However, its ROE is similar to the industry average of 12%, so we won't completely dismiss the company. Having said that, Power & Instrumental (Gujarat)'s five year net income decline rate was 15%. Remember, the company's ROE is a bit low to begin with. So that's what might be causing earnings growth to shrink.

That being said, we compared Power & Instrumental (Gujarat)'s performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 24% 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. If you're wondering about Power & Instrumental (Gujarat)'s's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Power & Instrumental (Gujarat) Using Its Retained Earnings Effectively?

Power & Instrumental (Gujarat)'s low three-year median payout ratio of 5.1% (implying that it retains the remaining 95% of its profits) comes as a surprise when you pair it with the shrinking earnings. This typically shouldn't be the case when a company is retaining most of its earnings. So there could be some other explanations in that regard. For example, the company's business may be deteriorating.

In addition, Power & Instrumental (Gujarat) only recently started paying a dividend so the management probably decided the shareholders prefer dividends even though earnings have been shrinking.

Summary

In total, we're a bit ambivalent about Power & Instrumental (Gujarat)'s performance. 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. You can see the 3 risks we have identified for Power & Instrumental (Gujarat) by visiting our risks dashboard for free on our platform here.

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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.