Can Alembic Pharmaceuticals Limited (NSE:APLLTD) Performance Keep Up Given Its Mixed Bag Of Fundamentals?

Alembic Pharmaceuticals' (NSE:APLLTD) stock up by 6.9% over the past three months. However, the company's financials look a bit inconsistent and market outcomes are ultimately driven by long-term fundamentals, meaning that the stock could head in either direction. Particularly, we will be paying attention to Alembic Pharmaceuticals' ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Alembic Pharmaceuticals

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 Alembic Pharmaceuticals is:

13% = ₹6.3b ÷ ₹48b (Based on the trailing twelve months to June 2024).

The 'return' is the amount earned after tax over the last twelve months. 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?

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

Alembic Pharmaceuticals' Earnings Growth And 13% ROE

At first glance, Alembic Pharmaceuticals' ROE doesn't look very promising. However, its ROE is similar to the industry average of 12%, so we won't completely dismiss the company. Having said that, Alembic Pharmaceuticals' five year net income decline rate was 14%. Bear in mind, the company does have a slightly low ROE. Therefore, the decline in earnings could also be the result of this.

So, as a next step, we compared Alembic Pharmaceuticals' performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 15% over the last few years.

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). This then helps them determine if the stock is placed for a bright or bleak future. Is Alembic Pharmaceuticals fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Alembic Pharmaceuticals Efficiently Re-investing Its Profits?

In spite of a normal three-year median payout ratio of 36% (that is, a retention ratio of 64%), the fact that Alembic Pharmaceuticals' earnings have shrunk is quite puzzling. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Additionally, Alembic Pharmaceuticals has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 26% over the next three years. As a result, the expected drop in Alembic Pharmaceuticals' payout ratio explains the anticipated rise in the company's future ROE to 16%, over the same period.

Summary

Overall, we have mixed feelings about Alembic Pharmaceuticals. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.