Harrisons Malayalam Limited's (NSE:HARRMALAYA) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?

Most readers would already be aware that Harrisons Malayalam's (NSE:HARRMALAYA) stock increased significantly by 16% over the past week. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. In this article, we decided to focus on Harrisons Malayalam's ROE.

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. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

View our latest analysis for Harrisons Malayalam

How Do You 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 Harrisons Malayalam is:

1.8% = ₹27m ÷ ₹1.5b (Based on the trailing twelve months to December 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 ₹0.02 in profit.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

A Side By Side comparison of Harrisons Malayalam's Earnings Growth And 1.8% ROE

It is quite clear that Harrisons Malayalam's ROE is rather low. Not just that, even compared to the industry average of 12%, the company's ROE is entirely unremarkable. In spite of this, Harrisons Malayalam was able to grow its net income considerably, at a rate of 26% in the last five years. We reckon that there could be other factors at play here. Such as - high earnings retention or an efficient management in place.

We then compared Harrisons Malayalam'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 17% 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). This then helps them determine if the stock is placed for a bright or bleak future. 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 Harrisons Malayalam is trading on a high P/E or a low P/E, relative to its industry.

Is Harrisons Malayalam Using Its Retained Earnings Effectively?

Harrisons Malayalam doesn't pay any regular dividends currently which essentially means that it has been reinvesting all of its profits into the business. This definitely contributes to the high earnings growth number that we discussed above.

Summary

In total, it does look like Harrisons Malayalam has some positive aspects to its business. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. You can see the 3 risks we have identified for Harrisons Malayalam by visiting our risks dashboard for free on our platform here.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.