Will Weakness in Zydus Lifesciences Limited's (NSE:ZYDUSLIFE) Stock Prove Temporary Given Strong Fundamentals?

It is hard to get excited after looking at Zydus Lifesciences' (NSE:ZYDUSLIFE) recent performance, when its stock has declined 3.4% over the past three months. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Particularly, we will be paying attention to Zydus Lifesciences' ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Zydus Lifesciences

How Is ROE Calculated?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Zydus Lifesciences is:

18% = ₹44b ÷ ₹242b (Based on the trailing twelve months to September 2024).

The 'return' is the income the business earned over the last year. So, this means that for every ₹1 of its shareholder's investments, the company generates a profit of ₹0.18.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

A Side By Side comparison of Zydus Lifesciences' Earnings Growth And 18% ROE

To begin with, Zydus Lifesciences seems to have a respectable ROE. On comparing with the average industry ROE of 12% the company's ROE looks pretty remarkable. Probably as a result of this, Zydus Lifesciences was able to see an impressive net income growth of 21% over the last five years. However, there could also be other causes behind this 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.

Next, on comparing with the industry net income growth, we found that Zydus Lifesciences' growth is quite high when compared to the industry average growth of 13% in the same period, which is great to see.

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. Is Zydus Lifesciences fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Zydus Lifesciences Making Efficient Use Of Its Profits?

Zydus Lifesciences has a really low three-year median payout ratio of 12%, meaning that it has the remaining 88% left over to reinvest into its business. So it looks like Zydus Lifesciences is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Additionally, Zydus Lifesciences has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with 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 15%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 16%.

Summary

Overall, we are quite pleased with Zydus Lifesciences' performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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.