Could The Market Be Wrong About Monolithic Power Systems, Inc. (NASDAQ:MPWR) Given Its Attractive Financial Prospects?
Monolithic Power Systems (NASDAQ:MPWR) has had a rough month with its share price down 12%. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Specifically, we decided to study Monolithic Power Systems' 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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
Check out our latest analysis for Monolithic Power Systems
How To Calculate Return On Equity?
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 Monolithic Power Systems is:
18% = US$212m ÷ US$1.2b (Based on the trailing twelve months to September 2021).
The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.18 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. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.
Monolithic Power Systems' Earnings Growth And 18% ROE
To start with, Monolithic Power Systems' ROE looks acceptable. And on comparing with the industry, we found that the the average industry ROE is similar at 16%. Consequently, this likely laid the ground for the impressive net income growth of 28% seen over the past five years by Monolithic Power Systems. We believe that there might also be other aspects that are positively influencing the company's earnings growth. Such as - high earnings retention or an efficient management in place.
Next, on comparing with the industry net income growth, we found that Monolithic Power Systems' growth is quite high when compared to the industry average growth of 15% in the same period, which is great to see.
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. 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 Monolithic Power Systems''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Monolithic Power Systems Efficiently Re-investing Its Profits?
The high three-year median payout ratio of 55% (implying that it keeps only 45% of profits) for Monolithic Power Systems suggests that the company's growth wasn't really hampered despite it returning most of the earnings to its shareholders.
Besides, Monolithic Power Systems has been paying dividends over a period of eight years. This shows that the company is committed to sharing profits with its shareholders. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 30% over the next three years. As a result, the expected drop in Monolithic Power Systems' payout ratio explains the anticipated rise in the company's future ROE to 28%, over the same period.
Summary
Overall, we are quite pleased with Monolithic Power Systems' performance. Especially the high ROE, Which has contributed to the impressive growth seen in earnings. Despite the company reinvesting only a small portion of its profits, it still has managed to grow its earnings so that is appreciable. We also studied the latest analyst forecasts and found that the company's earnings growth is expected be similar to its current growth rate. 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.
