Grasim Industries Limited's (NSE:GRASIM) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?

Grasim Industries (NSE:GRASIM) has had a great run on the share market with its stock up by a significant 16% over the last three months. 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 Grasim Industries' ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Grasim Industries

How To 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 Grasim Industries is:

7.3% = ₹96b ÷ ₹1.3t (Based on the trailing twelve months to December 2023).

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 ₹0.07.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

A Side By Side comparison of Grasim Industries' Earnings Growth And 7.3% ROE

It is quite clear that Grasim Industries' ROE is rather low. A comparison with the industry shows that the company's ROE is pretty similar to the average industry ROE of 8.2%. However, the exceptional 21% net income growth seen by Grasim Industries over the past five years is pretty remarkable. We reckon that there could also be other factors at play thats influencing the company's growth. Such as - high earnings retention or an efficient management in place.

We then compared Grasim Industries' 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 3.6% in the same 5-year 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. Doing so will help them establish if the stock's future looks promising or ominous. Is Grasim Industries fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Grasim Industries Using Its Retained Earnings Effectively?

Grasim Industries' three-year median payout ratio to shareholders is 8.1%, which is quite low. This implies that the company is retaining 92% of its profits. This suggests that the management is reinvesting most of the profits to grow the business as evidenced by the growth seen by the company.

Besides, Grasim Industries has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 24% over the next three years. Accordingly, the expected increase in the payout ratio explains the expected decline in the company's ROE to 3.7%, over the same period.

Conclusion

On the whole, we do feel that Grasim Industries has some positive attributes. Despite its low rate of return, the fact that the company reinvests a very high portion of its profits into its business, no doubt contributed to its high earnings growth. With that said, on studying the latest analyst forecasts, we found that while the company has seen growth in its past earnings, analysts expect its future earnings to shrink. 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.

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.