Privi Speciality Chemicals Limited's (NSE:PRIVISCL) Stock Has Been Sliding But Fundamentals Look Strong: Is The Market Wrong?

Privi Speciality Chemicals (NSE:PRIVISCL) has had a rough three months with its share price down 5.2%. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Specifically, we decided to study Privi Speciality Chemicals' 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Privi Speciality Chemicals

How Do You 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 Privi Speciality Chemicals is:

21% = ₹1.4b ÷ ₹6.5b (Based on the trailing twelve months to September 2020).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every ₹1 worth of equity, the company was able to earn ₹0.21 in profit.

What Has ROE Got To Do With 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. 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.

Privi Speciality Chemicals' Earnings Growth And 21% ROE

To begin with, Privi Speciality Chemicals seems to have a respectable ROE. Especially when compared to the industry average of 12% the company's ROE looks pretty impressive. Probably as a result of this, Privi Speciality Chemicals was able to see an impressive net income growth of 56% over the last five years. We reckon that there could also be other factors at play here. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

Next, on comparing with the industry net income growth, we found that Privi Speciality Chemicals' growth is quite high when compared to the industry average growth of 15% in the same period, which is great to see.

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. 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 Privi Speciality Chemicals is trading on a high P/E or a low P/E, relative to its industry.

Is Privi Speciality Chemicals Making Efficient Use Of Its Profits?

Privi Speciality Chemicals has a really low three-year median payout ratio of 10%, meaning that it has the remaining 90% left over to reinvest into its business. So it looks like Privi Speciality Chemicals is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Moreover, Privi Speciality Chemicals 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

On the whole, we feel that Privi Speciality Chemicals' performance has been quite good. 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. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. You can see the 2 risks we have identified for Privi Speciality Chemicals 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. 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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