Aries Agro's (NSE:ARIES) stock is up by a considerable 14% over the past week. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. Specifically, we decided to study Aries Agro's ROE in this article.
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.
How Is ROE Calculated?
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 Aries Agro is:
5.9% = ₹139m ÷ ₹2.3b (Based on the trailing twelve months to December 2021).
The 'return' is the income the business earned over the last year. So, this means that for every ₹1 of its shareholder's investments, the company generates a profit of ₹0.06.
What Is The Relationship Between ROE And Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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.
Aries Agro's Earnings Growth And 5.9% ROE
As you can see, Aries Agro's ROE looks pretty weak. Even when compared to the industry average of 16%, the ROE figure is pretty disappointing. However, the moderate 16% net income growth seen by Aries Agro over the past five years is definitely a positive. Therefore, the growth in earnings could probably have been caused by other variables. For instance, the company has a low payout ratio or is being managed efficiently.
We then compared Aries Agro's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 20% in the same period, which is a bit concerning.
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. This then helps them determine if the stock is placed for a bright or bleak future. Is Aries Agro fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Aries Agro Making Efficient Use Of Its Profits?
In Aries Agro's case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 5.8% (or a retention ratio of 94%), which suggests that the company is investing most of its profits to grow its business.
Besides, Aries Agro has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders.
Overall, we feel that Aries Agro certainly does have some positive factors to consider. That is, a decent growth in earnings backed by a high rate of reinvestment. However, we do feel that that earnings growth could have been higher if the business were to improve on the low ROE rate. Especially given how the company is reinvesting a huge chunk of its profits. 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 Aries Agro by visiting our risks dashboard for free on our platform here.
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.