Are Robust Financials Driving The Recent Rally In Par Drugs and Chemicals Limited's (NSE:PAR) Stock?

Par Drugs and Chemicals' (NSE:PAR) stock is up by a considerable 14% over the past week. 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 Par Drugs and Chemicals' ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Par Drugs and Chemicals

How Is ROE Calculated?

Return on equity 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 Par Drugs and Chemicals is:

16% = ₹115m ÷ ₹712m (Based on the trailing twelve months to June 2023).

The 'return' is the profit over the last twelve months. That means that for every ₹1 worth of shareholders' equity, the company generated ₹0.16 in profit.

What Is The Relationship Between ROE And 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. 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.

Par Drugs and Chemicals' Earnings Growth And 16% ROE

At first glance, Par Drugs and Chemicals seems to have a decent ROE. Especially when compared to the industry average of 12% the company's ROE looks pretty impressive. This certainly adds some context to Par Drugs and Chemicals' exceptional 28% net income growth seen over the past five years. We reckon that there could also be other factors at play here. 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.

Next, on comparing with the industry net income growth, we found that Par Drugs and Chemicals' growth is quite high when compared to the industry average growth of 16% in the same period, which is great to see.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. 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 Par Drugs and Chemicals is trading on a high P/E or a low P/E, relative to its industry.

Is Par Drugs and Chemicals Using Its Retained Earnings Effectively?

Par Drugs and Chemicals has a really low three-year median payout ratio of 9.0%, meaning that it has the remaining 91% left over to reinvest into its business. So it looks like Par Drugs and Chemicals is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Additionally, Par Drugs and Chemicals has paid dividends over a period of four years which means that the company is pretty serious about sharing its profits with shareholders.

Conclusion

Overall, we are quite pleased with Par Drugs and Chemicals' 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. Remember, the price of a stock is also dependent on the perceived risk. Therefore investors must keep themselves informed about the risks involved before investing in any company. You can see the 2 risks we have identified for Par Drugs and Chemicals by visiting our risks dashboard for free on our platform here.

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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.