Is the recent performance of Divi’s Laboratories Limited (NSE: DIVISLAB) linked to its attractive financial outlook?

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Divi Laboratories (NSE: DIVISLAB) shares have increased by 5.9% over the past three months. Given its impressive performance, we decided to study the company’s key financial metrics, as a company’s long-term fundamentals usually dictate market results. Concretely, we have decided to study the ROE of Divi laboratories in this article.

Return on equity or ROE is a test of how effectively a company increases its value and manages investor money. In short, the ROE shows the profit that each dollar generates compared to the investments of its shareholders.

See our latest analysis for Divi Laboratories

How is the ROE calculated?

Return on equity can be calculated using the formula:

Return on equity = Net income (from continuing operations) ÷ Equity

Thus, on the basis of the above formula, the ROE of Divi Laboratories is:

22% = ₹ 20b ÷ ₹ 93b (Based on the last twelve months up to June 2021).

The “return” is the profit of the last twelve months. Another way to look at this is that for every 1 value of equity, the company was able to make 0.22 profit.

Why is ROE important for profit growth?

So far we’ve learned that ROE is a measure of a company’s profitability. Based on the portion of its profits that the company chooses to reinvest or “keep”, we are then able to assess a company’s future ability to generate profits. Assuming everything else remains the same, the higher the ROE and profit retention, the higher the growth rate of a business compared to businesses that don’t necessarily have these characteristics.

Growth in Divi’s Laboratories profits and 22% ROE

For starters, Divi’s Laboratories seems to have a respectable ROE. Compared to the industry’s average ROE of 16%, the company’s ROE looks quite remarkable. This likely laid the groundwork for Divi Labs’ moderate 18% net income growth over the past five years.

We then performed a comparison between the growth of Divi Labs net income with the industry, which found that the growth of the company is similar to the industry average growth of 16% during the same period.

NSEI: DIVISLAB Past Profit Growth November 7, 2021

Profit growth is a huge factor in the valuation of stocks. What investors next need to determine is whether the expected earnings growth, or lack thereof, is already built into the share price. This will help them determine whether the future of the stock looks bright or threatening. A 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 outlook. So, you might want to check if Divi’s Laboratories is trading high P / E or low P / E, relative to its industry.

Are Divi’s laboratories effectively using its retained earnings?

Divi’s Laboratories has a healthy combination of a moderate three-year median payout ratio of 29% (or retention rate of 71%) and a respectable amount of profit growth as we saw above, which means that the company has made efficient use of its profits.

In addition, Divi’s Laboratories has paid dividends for at least ten years or more. This shows that the company is committed to sharing the profits with its shareholders. After studying the latest consensus data from analysts, we found that the company is expected to continue to pay out around 27% of its profits over the next three years. As a result, Divi’s Laboratories ‘ROE is not expected to change much either, which we have deduced from analysts’ estimate of 25% for future ROE.

Conclusion

Overall, we think the performance of Divi Laboratories has been quite good. In particular, it is great to see that the company is investing heavily in its business and with a high rate of return, which has resulted in significant growth in its profits. Looking at current analysts’ estimates, we found that analysts expect the company to continue its recent streak of growth. To learn more about the latest analyst forecast for the business, check out this visualization of the analyst forecast for the business.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in the mentioned stocks.

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