Are Ami Organics Limited's (NSE:AMIORG) Fundamentals Good Enough to Warrant Buying Given The Stock's Recent Weakness?

With its stock down 15% over the past month, it is easy to disregard Ami Organics (NSE:AMIORG). But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. In this article, we decided to focus on Ami Organics' ROE.

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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for Ami Organics

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 Ami Organics is:

7.9% = ₹957m ÷ ₹12b (Based on the trailing twelve months to September 2024).

The 'return' is the yearly profit. Another way to think of that is that for every ₹1 worth of equity, the company was able to earn ₹0.08 in profit.

What Has ROE Got To Do With Earnings Growth?

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

Ami Organics' Earnings Growth And 7.9% ROE

It is hard to argue that Ami Organics' ROE is much good in and of itself. Even compared to the average industry ROE of 13%, the company's ROE is quite dismal. However, the moderate 5.3% net income growth seen by Ami Organics over the past five years is definitely a positive. Therefore, the growth in earnings could probably have been caused by other variables. For instance, the company has a low payout ratio or is being managed efficiently.

Next, on comparing with the industry net income growth, we found that Ami Organics' reported growth was lower than the industry growth of 14% over the last few years, which is not something we like to see.

Earnings growth is a huge factor in stock valuation. 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. If you're wondering about Ami Organics''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Ami Organics Making Efficient Use Of Its Profits?

Ami Organics has a low three-year median payout ratio of 19%, meaning that the company retains the remaining 81% of its profits. This suggests that the management is reinvesting most of the profits to grow the business.

Additionally, Ami Organics has paid dividends over a period of three years which means that the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 7.3% over the next three years. As a result, the expected drop in Ami Organics' payout ratio explains the anticipated rise in the company's future ROE to 16%, over the same period.

Summary

In total, it does look like Ami Organics has some positive aspects to its business. Specifically, its fairly high earnings growth number, which no doubt was backed by the company's high earnings retention. Still, the low ROE means that all that reinvestment is not reaping a lot of benefit to the investors. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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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.