Should Weakness in Welspun Living Limited's (NSE:WELSPUNLIV) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

It is hard to get excited after looking at Welspun Living's (NSE:WELSPUNLIV) recent performance, when its stock has declined 16% over the past three months. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Particularly, we will be paying attention to Welspun Living's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

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How Do You Calculate Return On Equity?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Welspun Living is:

14% = ₹6.4b ÷ ₹47b (Based on the trailing twelve months to December 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 ₹0.14 in profit.

Check out our latest analysis for Welspun Living

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. 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.

Welspun Living's Earnings Growth And 14% ROE

When you first look at it, Welspun Living's ROE doesn't look that attractive. Although a closer study shows that the company's ROE is higher than the industry average of 9.0% which we definitely can't overlook. This certainly adds some context to Welspun Living's moderate 5.9% net income growth seen over the past five years. That being said, the company does have a slightly low ROE to begin with, just that it is higher than the industry average. Hence there might be some other aspects that are causing earnings to grow. For example, it is possible that the broader industry is going through a high growth phase, or that the company has a low payout ratio.

As a next step, we compared Welspun Living's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 21% in the same period.

Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. 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 Welspun Living's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Welspun Living Efficiently Re-investing Its Profits?

Welspun Living's three-year median payout ratio to shareholders is 1.4% (implying that it retains 99% of its income), which is on the lower side, so it seems like the management is reinvesting profits heavily to grow its business.

Additionally, Welspun Living has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Looking at the current analyst consensus data, we can see that the company's future payout ratio is expected to rise to 8.9% over the next three years. Despite the higher expected payout ratio, the company's ROE is not expected to change by much.

Summary

Overall, we feel that Welspun Living certainly does have some positive factors to consider. In particular, it's great to see that the company is investing heavily into its business and along with a moderate rate of return, that has resulted in a respectable growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.