Kansai Nerolac Paints Limited (NSE:KANSAINER) Is Going Strong But Fundamentals Appear To Be Mixed : Is There A Clear Direction For The Stock?

By
Simply Wall St
Published
July 24, 2021
NSEI:KANSAINER
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Kansai Nerolac Paints (NSE:KANSAINER) has had a great run on the share market with its stock up by a significant 13% over the last three months. 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. In this article, we decided to focus on Kansai Nerolac Paints' ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Kansai Nerolac Paints

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 Kansai Nerolac Paints is:

13% = ₹5.3b ÷ ₹41b (Based on the trailing twelve months to March 2021).

The 'return' is the profit over the last twelve months. So, this means that for every ₹1 of its shareholder's investments, the company generates a profit of ₹0.13.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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. 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.

Kansai Nerolac Paints' Earnings Growth And 13% ROE

When you first look at it, Kansai Nerolac Paints' ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 14%, we may spare it some thought. But then again, Kansai Nerolac Paints' five year net income shrunk at a rate of 11%. Remember, the company's ROE is a bit low to begin with. So that's what might be causing earnings growth to shrink.

That being said, we compared Kansai Nerolac Paints' performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 15% in the same period.

past-earnings-growth
NSEI:KANSAINER Past Earnings Growth July 25th 2021

Earnings growth is an important metric to consider when valuing a stock. 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 Kansai Nerolac Paints is trading on a high P/E or a low P/E, relative to its industry.

Is Kansai Nerolac Paints Efficiently Re-investing Its Profits?

In spite of a normal three-year median payout ratio of 32% (that is, a retention ratio of 68%), the fact that Kansai Nerolac Paints' earnings have shrunk is quite puzzling. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Additionally, Kansai Nerolac Paints 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. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 32%. Still, forecasts suggest that Kansai Nerolac Paints' future ROE will rise to 16% even though the the company's payout ratio is not expected to change by much.

Summary

On the whole, we feel that the performance shown by Kansai Nerolac Paints can be open to many interpretations. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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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