Has Ramkrishna Forgings Limited's (NSE:RKFORGE) Impressive Stock Performance Got Anything to Do With Its Fundamentals?

Ramkrishna Forgings' (NSE:RKFORGE) stock is up by a considerable 38% 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 Ramkrishna Forgings' ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Ramkrishna Forgings

How Do You Calculate Return On Equity?

The formula for ROE is:

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

So, based on the above formula, the ROE for Ramkrishna Forgings is:

13% = ₹3.4b ÷ ₹27b (Based on the trailing twelve months to June 2024).

The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each ₹1 of shareholders' capital it has, the company made ₹0.13 in profit.

Why Is ROE Important For 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.

Ramkrishna Forgings' Earnings Growth And 13% ROE

When you first look at it, Ramkrishna Forgings' ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 13%, we may spare it some thought. Particularly, the exceptional 46% net income growth seen by Ramkrishna Forgings over the past five years is pretty remarkable. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this growth. Such as - high earnings retention or an efficient management in place.

As a next step, we compared Ramkrishna Forgings' 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 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 Ramkrishna Forgings is trading on a high P/E or a low P/E, relative to its industry.

Is Ramkrishna Forgings Making Efficient Use Of Its Profits?

Ramkrishna Forgings' three-year median payout ratio to shareholders is 8.4%, which is quite low. This implies that the company is retaining 92% of its profits. So it seems like the management is reinvesting profits heavily to grow its business and this reflects in its earnings growth number.

Besides, Ramkrishna Forgings 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 11% over the next three years.

Conclusion

In total, it does look like Ramkrishna Forgings has some positive aspects to its business. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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.

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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.