Is Laurus Labs Limited's (NSE:LAURUSLABS) Recent Stock Performance Tethered To Its Strong Fundamentals?

Laurus Labs (NSE:LAURUSLABS) has had a great run on the share market with its stock up by a significant 27% over the last three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Specifically, we decided to study Laurus Labs' 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for Laurus Labs

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 Laurus Labs is:

30% = ₹9.0b ÷ ₹30b (Based on the trailing twelve months to December 2021).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each ₹1 of shareholders' capital it has, the company made ₹0.30 in profit.

What Has ROE Got To Do With 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. 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.

Laurus Labs' Earnings Growth And 30% ROE

To begin with, Laurus Labs has a pretty high ROE which is interesting. Second, a comparison with the average ROE reported by the industry of 14% also doesn't go unnoticed by us. So, the substantial 50% net income growth seen by Laurus Labs over the past five years isn't overly surprising.

We then compared Laurus Labs' net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 22% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. 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 Laurus Labs is trading on a high P/E or a low P/E, relative to its industry.

Is Laurus Labs Making Efficient Use Of Its Profits?

Laurus Labs' three-year median payout ratio to shareholders is 11%, which is quite low. This implies that the company is retaining 89% 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, Laurus Labs has been paying dividends over a period of five years. This shows that the company is committed to sharing profits with its shareholders. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 10%. Accordingly, forecasts suggest that Laurus Labs' future ROE will be 28% which is again, similar to the current ROE.

Conclusion

On the whole, we feel that Laurus Labs' performance has been quite good. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial 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 latest analysts predictions for the company, check out this visualization of analyst forecasts 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.