Solex Energy Limited (NSE:SOLEX) Stock Has Shown Weakness Lately But Financials Look Strong: Should Prospective Shareholders Make The Leap?

It is hard to get excited after looking at Solex Energy's (NSE:SOLEX) recent performance, when its stock has declined 41% over the past three months. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. In this article, we decided to focus on Solex Energy's 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

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How Do You Calculate Return On Equity?

The formula for return on equity is:

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

So, based on the above formula, the ROE for Solex Energy is:

16% = ₹210m ÷ ₹1.3b (Based on the trailing twelve months to September 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 ₹0.16 in profit.

See our latest analysis for Solex Energy

Why Is ROE Important For 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. 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.

A Side By Side comparison of Solex Energy's Earnings Growth And 16% ROE

At first glance, Solex Energy seems to have a decent ROE. Even so, when compared with the average industry ROE of 26%, we aren't very excited. Still, we can see that Solex Energy has seen a remarkable net income growth of 36% over the past five years. Therefore, there could 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. However, not to forget, the company does have a decent ROE to begin with, just that it is lower than the industry average. So this certainly also provides some context to the high earnings growth seen by the company.

Next, on comparing Solex Energy's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 39% over the last few years.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. Is Solex Energy fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Solex Energy Using Its Retained Earnings Effectively?

Solex Energy's three-year median payout ratio to shareholders is 7.0%, which is quite low. This implies that the company is retaining 93% of its profits. So it looks like Solex Energy is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Additionally, Solex Energy has paid dividends over a period of seven years which means that the company is pretty serious about sharing its profits with shareholders.

Conclusion

In total, we are pretty happy with Solex Energy's performance. In particular, it's great to see that the company has seen significant growth in its earnings backed by a respectable ROE and a high reinvestment rate. 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. Not to forget, share price outcomes are also dependent on the potential risks a company may face. So it is important for investors to be aware of the risks involved in the business. You can see the 4 risks we have identified for Solex Energy 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.