Rama Steel Tubes Limited's (NSE:RAMASTEEL) Stock On An Uptrend: Could Fundamentals Be Driving The Momentum?

Most readers would already be aware that Rama Steel Tubes' (NSE:RAMASTEEL) stock increased significantly by 21% over the past 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. Particularly, we will be paying attention to Rama Steel Tubes' ROE today.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for Rama Steel Tubes

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 Rama Steel Tubes is:

8.3% = ₹287m ÷ ₹3.5b (Based on the trailing twelve months to June 2024).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each ₹1 of shareholders' capital it has, the company made ₹0.08 in profit.

What Is The Relationship Between ROE And Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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 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.

Rama Steel Tubes' Earnings Growth And 8.3% ROE

It is quite clear that Rama Steel Tubes' ROE is rather low. Even compared to the average industry ROE of 13%, the company's ROE is quite dismal. However, we we're pleasantly surprised to see that Rama Steel Tubes grew its net income at a significant rate of 38% in the last five years. We reckon that there could be other factors at play here. Such as - high earnings retention or an efficient management in place.

As a next step, we compared Rama Steel Tubes' net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 28%.

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. 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 Rama Steel Tubes is trading on a high P/E or a low P/E, relative to its industry.

Is Rama Steel Tubes Efficiently Re-investing Its Profits?

Rama Steel Tubes doesn't pay any regular dividends to its shareholders, meaning that the company has been reinvesting all of its profits into the business. This is likely what's driving the high earnings growth number discussed above.

Conclusion

Overall, we feel that Rama Steel Tubes certainly does have some positive factors to consider. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. 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. Our risks dashboard would have the 2 risks we have identified for Rama Steel Tubes.

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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.