Will Weakness in Supreme Petrochem Limited's (NSE:SPLPETRO) Stock Prove Temporary Given Strong Fundamentals?

It is hard to get excited after looking at Supreme Petrochem's (NSE:SPLPETRO) recent performance, when its stock has declined 7.9% over the past three months. 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 Supreme Petrochem's ROE in this article.

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 Supreme Petrochem

How To Calculate Return On Equity?

ROE 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 Supreme Petrochem is:

35% = ₹5.6b ÷ ₹16b (Based on the trailing twelve months to December 2022).

The 'return' refers to a company's earnings over the last year. So, this means that for every ₹1 of its shareholder's investments, the company generates a profit of ₹0.35.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.

Supreme Petrochem's Earnings Growth And 35% ROE

To begin with, Supreme Petrochem has a pretty high ROE which is interesting. Additionally, the company's ROE is higher compared to the industry average of 15% which is quite remarkable. So, the substantial 48% net income growth seen by Supreme Petrochem over the past five years isn't overly surprising.

As a next step, we compared Supreme Petrochem's 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 21%.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Supreme Petrochem is trading on a high P/E or a low P/E, relative to its industry.

Is Supreme Petrochem Efficiently Re-investing Its Profits?

Supreme Petrochem has a really low three-year median payout ratio of 25%, meaning that it has the remaining 75% left over to reinvest into its business. 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, Supreme Petrochem has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders.

Summary

In total, we are pretty happy with Supreme Petrochem's performance. 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. Not to forget, share price outcomes are also dependent on the potential risks a company may face. So it is important for investors to be aware of the risks involved in the business. To know the 1 risk we have identified for Supreme Petrochem visit our risks dashboard for free.

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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.