Sheela Foam Limited (NSE:SFL) Stock's Been Sliding But Fundamentals Look Decent: Will The Market Correct The Share Price In The Future?

Sheela Foam (NSE:SFL) has had a rough three months with its share price down 16%. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on Sheela Foam's ROE.

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.

Check out our latest analysis for Sheela Foam

How Is ROE Calculated?

Return on equity 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 Sheela Foam is:

13% = ₹2.0b ÷ ₹16b (Based on the trailing twelve months to March 2023).

The 'return' is the income the business earned over the last year. That means that for every ₹1 worth of shareholders' equity, the company generated ₹0.13 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 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.

Sheela Foam's Earnings Growth And 13% ROE

At first glance, Sheela Foam's ROE doesn't look very promising. Yet, a closer study shows that the company's ROE is similar to the industry average of 11%. Even so, Sheela Foam has shown a fairly decent growth in its net income which grew at a rate of 12%. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this growth. 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 Sheela Foam'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 7.2%.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. 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 Sheela Foam's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Sheela Foam Using Its Retained Earnings Effectively?

Given that Sheela Foam doesn't pay any dividend to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.

Summary

In total, it does look like Sheela Foam has some positive aspects to its business. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.