Are Robust Financials Driving The Recent Rally In Persistent Systems Limited's (NSE:PERSISTENT) Stock?

Simply Wall St · 10/19 02:01

Persistent Systems (NSE:PERSISTENT) has had a great run on the share market with its stock up by a significant 20% over the last three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to Persistent Systems' ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

See our latest analysis for Persistent Systems

How Is ROE Calculated?

Return on equity can be calculated by using the formula:

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

So, based on the above formula, the ROE for Persistent Systems is:

22% = ₹12b ÷ ₹54b (Based on the trailing twelve months to June 2024).

The 'return' is the income the business earned over the last year. That means that for every ₹1 worth of shareholders' equity, the company generated ₹0.22 in profit.

What Is The Relationship Between ROE And Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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 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.

Persistent Systems' Earnings Growth And 22% ROE

To begin with, Persistent Systems seems to have a respectable ROE. Especially when compared to the industry average of 14% the company's ROE looks pretty impressive. Probably as a result of this, Persistent Systems was able to see an impressive net income growth of 27% over the last five years. We reckon that there could also be other factors at play here. 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.

We then compared Persistent Systems' net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 21% in the same 5-year period.

past-earnings-growth
NSEI:PERSISTENT Past Earnings Growth October 19th 2024

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. Doing so will help them establish if the stock's future looks promising or ominous. Is Persistent Systems fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Persistent Systems Using Its Retained Earnings Effectively?

The three-year median payout ratio for Persistent Systems is 34%, which is moderately low. The company is retaining the remaining 66%. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like Persistent Systems is reinvesting its earnings efficiently.

Additionally, Persistent Systems has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 36%. Still, forecasts suggest that Persistent Systems' future ROE will rise to 26% even though the the company's payout ratio is not expected to change by much.

Conclusion

On the whole, we feel that Persistent Systems' performance has been quite good. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.