Is The Market Rewarding GAIL (India) Limited (NSE:GAIL) With A Negative Sentiment As A Result Of Its Mixed Fundamentals?

With its stock down 15% over the past three months, it is easy to disregard GAIL (India) (NSE:GAIL). We, however decided to study the company's financials to determine if they have got anything to do with the price decline. Fundamentals usually dictate market outcomes so it makes sense to study the company's financials. Specifically, we decided to study GAIL (India)'s ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for GAIL (India)

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 GAIL (India) is:

14% = ₹115b ÷ ₹840b (Based on the trailing twelve months to September 2024).

The 'return' refers to a company's earnings over the last year. That means that for every ₹1 worth of shareholders' equity, the company generated ₹0.14 in profit.

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 14% ROE

When you first look at it, GAIL (India)'s ROE doesn't look that attractive. Yet, a closer study shows that the company's ROE is similar to the industry average of 17%. We can see that GAIL (India) has grown at a five year net income growth average rate of 4.1%, which is a bit on the lower side. Bear in mind, the company's ROE is not very high . Hence, this does provide some context to low earnings growth seen by the company.

As a next step, we compared GAIL (India)'s net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 9.8% in the same period.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. What is GAIL worth today? The intrinsic value infographic in our free research report helps visualize whether GAIL is currently mispriced by the market.

Is GAIL (India) Using Its Retained Earnings Effectively?

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. Therefore, there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Additionally, GAIL (India) has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no 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%. As a result, GAIL (India)'s ROE is not expected to change by much either, which we inferred from the analyst estimate of 14% for future ROE.

Conclusion

In total, we're a bit ambivalent about GAIL (India)'s performance. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. 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.