Can Mixed Fundamentals Have A Negative Impact on The United Nilgiri Tea Estates Company Limited (NSE:UNITEDTEA) Current Share Price Momentum?

United Nilgiri Tea Estates (NSE:UNITEDTEA) has had a great run on the share market with its stock up by a significant 15% over the last week. But the company's key financial indicators appear to be differing across the board and that makes us question whether or not the company's current share price momentum can be maintained. Specifically, we decided to study United Nilgiri Tea Estates' 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 United Nilgiri Tea Estates

How Do You Calculate Return On Equity?

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 United Nilgiri Tea Estates is:

5.5% = ₹95m ÷ ₹1.7b (Based on the trailing twelve months to December 2021).

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 ₹0.05 in profit.

What Has ROE Got To Do With 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 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.

A Side By Side comparison of United Nilgiri Tea Estates' Earnings Growth And 5.5% ROE

It is hard to argue that United Nilgiri Tea Estates' ROE is much good in and of itself. Even when compared to the industry average of 12%, the ROE figure is pretty disappointing. Therefore, the disappointing ROE therefore provides a background to United Nilgiri Tea Estates' very little net income growth of 3.1% over the past five years.

We then compared United Nilgiri Tea Estates' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 16% in the same period, which is a bit concerning.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is United Nilgiri Tea Estates fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is United Nilgiri Tea Estates Making Efficient Use Of Its Profits?

United Nilgiri Tea Estates' low three-year median payout ratio of 11% (or a retention ratio of 89%) should mean that the company is retaining most of its earnings to fuel its growth. However, the low earnings growth number doesn't reflect this as high growth usually follows high profit retention. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Additionally, United Nilgiri Tea Estates has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.

Summary

On the whole, we feel that the performance shown by United Nilgiri Tea Estates can be open to many interpretations. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. You can see the 2 risks we have identified for United Nilgiri Tea Estates by visiting our risks dashboard for free on our platform here.

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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.