Vakrangee Limited's (NSE:VAKRANGEE) Stock is Soaring But Financials Seem Inconsistent: Will The Uptrend Continue?

Vakrangee's (NSE:VAKRANGEE) stock is up by a considerable 103% over the past three months. But the company's key financial indicators appear to be differing across the board and that makes us question whether or not the company's current share price momentum can be maintained. In this article, we decided to focus on Vakrangee's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Vakrangee

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 Vakrangee is:

2.9% = ₹778m ÷ ₹26b (Based on the trailing twelve months to September 2020).

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 ₹0.03.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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 Vakrangee's Earnings Growth And 2.9% ROE

It is hard to argue that Vakrangee's ROE is much good in and of itself. Not just that, even compared to the industry average of 9.4%, the company's ROE is entirely unremarkable. Given the circumstances, the significant decline in net income by 31% seen by Vakrangee over the last five years is not surprising. We reckon that there could also be other factors at play here. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

That being said, we compared Vakrangee's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 12% in the same period.

Earnings growth is a huge factor in stock valuation. 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. 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 Vakrangee is trading on a high P/E or a low P/E, relative to its industry.

Is Vakrangee Making Efficient Use Of Its Profits?

Looking at its three-year median payout ratio of 36% (or a retention ratio of 64%) which is pretty normal, Vakrangee's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

In addition, Vakrangee has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.

Summary

On the whole, we feel that the performance shown by Vakrangee can be open to many interpretations. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. You can see the 3 risks we have identified for Vakrangee by visiting our risks dashboard for free on our platform here.

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