Mphasis Limited's (NSE:MPHASIS) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?

It is hard to get excited after looking at Mphasis' (NSE:MPHASIS) recent performance, when its stock has declined 22% over the past three months. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on Mphasis' 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 Is ROE Calculated?

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 Mphasis is:

18% = ₹16b ÷ ₹91b (Based on the trailing twelve months to December 2024).

The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every ₹1 worth of equity, the company was able to earn ₹0.18 in profit.

See our latest analysis for Mphasis

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Mphasis' Earnings Growth And 18% ROE

At first glance, Mphasis seems to have a decent ROE. Further, the company's ROE compares quite favorably to the industry average of 15%. This probably laid the ground for Mphasis' moderate 7.7% net income growth seen over the past five years.

As a next step, we compared Mphasis' net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 26% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Mphasis is trading on a high P/E or a low P/E, relative to its industry.

Is Mphasis Efficiently Re-investing Its Profits?

While Mphasis has a three-year median payout ratio of 59% (which means it retains 41% of profits), the company has still seen a fair bit of earnings growth in the past, meaning that its high payout ratio hasn't hampered its ability to grow.

Moreover, Mphasis is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 54% of its profits over the next three years. Still, forecasts suggest that Mphasis' future ROE will rise to 25% even though the the company's payout ratio is not expected to change by much.

Conclusion

On the whole, we do feel that Mphasis has some positive attributes. The company has grown its earnings moderately as previously discussed. Still, the high ROE could have been even more beneficial to investors had the company been reinvesting more of its profits. As highlighted earlier, the current reinvestment rate appears to be quite low. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.