U.S. markets open in 31 minutes
  • S&P Futures

    4,245.50
    -0.25 (-0.01%)
     
  • Dow Futures

    34,434.00
    -28.00 (-0.08%)
     
  • Nasdaq Futures

    14,019.00
    +24.75 (+0.18%)
     
  • Russell 2000 Futures

    2,332.40
    +1.90 (+0.08%)
     
  • Crude Oil

    71.66
    +0.75 (+1.06%)
     
  • Gold

    1,849.40
    -30.20 (-1.61%)
     
  • Silver

    27.64
    -0.51 (-1.82%)
     
  • EUR/USD

    1.2121
    +0.0015 (+0.12%)
     
  • 10-Yr Bond

    1.4650
    +0.0030 (+0.21%)
     
  • Vix

    15.91
    -0.19 (-1.18%)
     
  • GBP/USD

    1.4111
    -0.0006 (-0.04%)
     
  • USD/JPY

    109.7560
    +0.1210 (+0.11%)
     
  • BTC-USD

    39,490.88
    +3,587.66 (+9.99%)
     
  • CMC Crypto 200

    982.04
    +40.23 (+4.27%)
     
  • FTSE 100

    7,145.99
    +11.93 (+0.17%)
     
  • Nikkei 225

    29,161.80
    +213.07 (+0.74%)
     

Should We Be Cautious About Materion Corporation's (NYSE:MTRN) ROE Of 2.5%?

  • Oops!
    Something went wrong.
    Please try again later.
·4 min read
  • Oops!
    Something went wrong.
    Please try again later.

One of the best investments we can make is in our own knowledge and skill set. With that in mind, this article will work through how we can use Return On Equity (ROE) to better understand a business. To keep the lesson grounded in practicality, we'll use ROE to better understand Materion Corporation (NYSE:MTRN).

Materion has a ROE of 2.5%, based on the last twelve months. One way to conceptualize this, is that for each $1 of shareholders' equity it has, the company made $0.03 in profit.

View our latest analysis for Materion

How Do You Calculate Return On Equity?

The formula for return on equity is:

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

Or for Materion:

2.5% = US$15m ÷ US$598m (Based on the trailing twelve months to September 2019.)

It's easy to understand the 'net profit' part of that equation, but 'shareholders' equity' requires further explanation. It is all the money paid into the company from shareholders, plus any earnings retained. You can calculate shareholders' equity by subtracting the company's total liabilities from its total assets.

What Does Return On Equity Mean?

Return on Equity measures a company's profitability against the profit it has kept for the business (plus any capital injections). The 'return' is the amount earned after tax over the last twelve months. A higher profit will lead to a higher ROE. So, as a general rule, a high ROE is a good thing. Clearly, then, one can use ROE to compare different companies.

Does Materion Have A Good Return On Equity?

Arguably the easiest way to assess company's ROE is to compare it with the average in its industry. However, this method is only useful as a rough check, because companies do differ quite a bit within the same industry classification. As shown in the graphic below, Materion has a lower ROE than the average (13%) in the Metals and Mining industry classification.

NYSE:MTRN Past Revenue and Net Income, January 29th 2020
NYSE:MTRN Past Revenue and Net Income, January 29th 2020

That's not what we like to see. We prefer it when the ROE of a company is above the industry average, but it's not the be-all and end-all if it is lower. Nonetheless, it might be wise to check if insiders have been selling.

Why You Should Consider Debt When Looking At ROE

Companies usually need to invest money to grow their profits. The cash for investment can come from prior year profits (retained earnings), issuing new shares, or borrowing. In the case of the first and second options, the ROE will reflect this use of cash, for growth. In the latter case, the use of debt will improve the returns, but will not change the equity. That will make the ROE look better than if no debt was used.

Combining Materion's Debt And Its 2.5% Return On Equity

Although Materion does use a little debt, its debt to equity ratio of just 0.0039 is very low. Its ROE is rather low, and it does use some debt, albeit not much. That's not great to see. Careful use of debt to boost returns is often very good for shareholders. However, it could reduce the company's ability to take advantage of future opportunities.

In Summary

Return on equity is one way we can compare the business quality of different companies. Companies that can achieve high returns on equity without too much debt are generally of good quality. If two companies have the same ROE, then I would generally prefer the one with less debt.

But when a business is high quality, the market often bids it up to a price that reflects this. The rate at which profits are likely to grow, relative to the expectations of profit growth reflected in the current price, must be considered, too. So you might want to take a peek at this data-rich interactive graph of forecasts for the company.

If you would prefer check out another company -- one with potentially superior financials -- then do not miss thisfree list of interesting companies, that have HIGH return on equity and low debt.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.