Will Weakness in eClerx Services Limited's (NSE:ECLERX) Stock Prove Temporary Given Strong Fundamentals?

It is hard to get excited after looking at eClerx Services' (NSE:ECLERX) recent performance, when its stock has declined 25% over the past three months. However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. Particularly, we will be paying attention to eClerx Services' 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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

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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 eClerx Services is:

25% = ₹5.2b ÷ ₹20b (Based on the trailing twelve months to December 2024).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each ₹1 of shareholders' capital it has, the company made ₹0.25 in profit.

Check out our latest analysis for eClerx Services

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

eClerx Services' Earnings Growth And 25% ROE

At first glance, eClerx Services seems to have a decent ROE. Further, the company's ROE compares quite favorably to the industry average of 12%. This certainly adds some context to eClerx Services' decent 19% net income growth seen over the past five years.

As a next step, we compared eClerx Services' net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 25% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. 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 eClerx Services is trading on a high P/E or a low P/E , relative to its industry.

Is eClerx Services Making Efficient Use Of Its Profits?

In eClerx Services' case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 0.9% (or a retention ratio of 99%), which suggests that the company is investing most of its profits to grow its business.

Moreover, eClerx Services 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. Looking at the current analyst consensus data, we can see that the company's future payout ratio is expected to rise to 29% over the next three years. However, the company's ROE is not expected to change by much despite the higher expected payout ratio.

Summary

On the whole, we feel that eClerx Services' performance has been quite good. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a respectable growth in its earnings. 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. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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.