Declining Stock and Solid Fundamentals: Is The Market Wrong About Astec LifeSciences Limited (NSE:ASTEC)?

With its stock down 15% over the past week, it is easy to disregard Astec LifeSciences (NSE:ASTEC). But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Particularly, we will be paying attention to Astec LifeSciences' ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for Astec LifeSciences

How Is ROE Calculated?

The formula for ROE is:

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

So, based on the above formula, the ROE for Astec LifeSciences is:

26% = ₹723m ÷ ₹2.8b (Based on the trailing twelve months to December 2020).

The 'return' is the amount earned after tax over the last twelve months. That means that for every ₹1 worth of shareholders' equity, the company generated ₹0.26 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 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.

Astec LifeSciences' Earnings Growth And 26% ROE

To begin with, Astec LifeSciences seems to have a respectable ROE. On comparing with the average industry ROE of 12% the company's ROE looks pretty remarkable. This probably laid the ground for Astec LifeSciences' significant 49% net income growth seen over the past five years. We believe that there might also be other aspects that are positively influencing the company's earnings growth. For instance, the company has a low payout ratio or is being managed efficiently.

We then compared Astec LifeSciences' 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 15% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. 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 Astec LifeSciences is trading on a high P/E or a low P/E, relative to its industry.

Is Astec LifeSciences Efficiently Re-investing Its Profits?

Astec LifeSciences' three-year median payout ratio to shareholders is 8.2%, which is quite low. This implies that the company is retaining 92% of its profits. So it looks like Astec LifeSciences is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Moreover, Astec LifeSciences is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years.

Conclusion

Overall, we are quite pleased with Astec LifeSciences' performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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This article by Simply Wall St is general in nature. 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.
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