Are GAIL (India) Limited's (NSE:GAIL) Mixed Financials The Reason For Its Gloomy Performance on The Stock Market?

It is hard to get excited after looking at GAIL (India)'s (NSE:GAIL) recent performance, when its stock has declined 8.3% over the past week. It seems that the market might have completely ignored the positive aspects of the company's fundamentals and decided to weigh-in more on the negative aspects. Fundamentals usually dictate market outcomes so it makes sense to study the company's financials. Particularly, we will be paying attention to GAIL (India)'s ROE today.

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 GAIL (India)

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 GAIL (India) is:

15% = ₹113b ÷ ₹772b (Based on the trailing twelve months to June 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 ₹0.15.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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 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.

GAIL (India)'s Earnings Growth And 15% ROE

At first glance, GAIL (India)'s ROE doesn't look very promising. However, given that the company's ROE is similar to the average industry ROE of 16%, we may spare it some thought. Having said that, GAIL (India) has shown a meagre net income growth of 3.6% over the past five years. Remember, the company's ROE is not particularly great to begin with. Hence, this does provide some context to low earnings growth seen by the company.

We then compared GAIL (India)'s net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 12% in the same 5-year period, which is a bit concerning.

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). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about GAIL (India)'s's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is GAIL (India) Making Efficient Use Of Its Profits?

While GAIL (India) has a decent three-year median payout ratio of 36% (or a retention ratio of 64%), it has seen very little growth in earnings. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Moreover, GAIL (India) has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. 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 41%. Accordingly, forecasts suggest that GAIL (India)'s future ROE will be 14% which is again, similar to the current ROE.

Conclusion

In total, we're a bit ambivalent about GAIL (India)'s performance. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. With that said, on studying the latest analyst forecasts, we found that while the company has seen growth in its past earnings, analysts expect its future earnings to shrink. 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.