West Coast Paper Mills Limited's (NSE:WSTCSTPAPR) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?

West Coast Paper Mills' (NSE:WSTCSTPAPR) stock is up by a considerable 7.5% over the past month. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. In this article, we decided to focus on West Coast Paper Mills' ROE.

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.

View our latest analysis for West Coast Paper Mills

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 West Coast Paper Mills is:

8.3% = ₹1.3b ÷ ₹16b (Based on the trailing twelve months to September 2020).

The 'return' is the amount earned after tax over the last twelve months. That means that for every ₹1 worth of shareholders' equity, the company generated ₹0.08 in profit.

Why Is ROE Important For Earnings Growth?

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

West Coast Paper Mills' Earnings Growth And 8.3% ROE

As you can see, West Coast Paper Mills' ROE looks pretty weak. A comparison with the industry shows that the company's ROE is pretty similar to the average industry ROE of 8.2%. However, the exceptional 34% net income growth seen by West Coast Paper Mills over the past five years is pretty remarkable. We reckon that there could also be other factors at play thats influencing the company's growth. 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.

As a next step, we compared West Coast Paper Mills' 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 17%.

Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. 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 West Coast Paper Mills is trading on a high P/E or a low P/E, relative to its industry.

Is West Coast Paper Mills Efficiently Re-investing Its Profits?

West Coast Paper Mills' ' three-year median payout ratio is on the lower side at 9.0% implying that it is retaining a higher percentage (91%) of its profits. So it looks like West Coast Paper Mills is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Moreover, West Coast Paper Mills 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

In total, it does look like West Coast Paper Mills has some positive aspects to its business. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. 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. To know the 3 risks we have identified for West Coast Paper Mills visit our risks dashboard for free.

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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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