Schaeffler India Limited's (NSE:SCHAEFFLER) Stock Is Going Strong: Have Financials A Role To Play?

Schaeffler India's (NSE:SCHAEFFLER) stock is up by a considerable 26% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Specifically, we decided to study Schaeffler India'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. 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 Schaeffler India

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 Schaeffler India is:

8.1% = ₹2.3b ÷ ₹29b (Based on the trailing twelve months to September 2020).

The 'return' is the profit over the last twelve months. That means that for every ₹1 worth of shareholders' equity, the company generated ₹0.08 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

Schaeffler India's Earnings Growth And 8.1% ROE

It is quite clear that Schaeffler India's ROE is rather low. An industry comparison shows that the company's ROE is not much different from the industry average of 8.2% either. So we are actually pleased to see that Schaeffler India's net income grew at an acceptable rate of 12% over the last five years. Given the low ROE, it is likely that there could be some other aspects that are driving this growth as well. For instance, the company has a low payout ratio or is being managed efficiently.

We then compared Schaeffler India'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 7.5% in the same period.

Earnings growth is an important metric to consider when valuing a stock. 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 Schaeffler India's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Schaeffler India Efficiently Re-investing Its Profits?

Schaeffler India's three-year median payout ratio to shareholders is 22% (implying that it retains 78% of its income), which is on the lower side, so it seems like the management is reinvesting profits heavily to grow its business.

Moreover, Schaeffler India 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.

Summary

Overall, we feel that Schaeffler India certainly does have some positive factors to consider. Despite its low rate of return, the fact that the company reinvests a very high portion of its profits into its business, no doubt contributed to its high earnings growth.

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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.
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