McGrath RentCorp's (NASDAQ:MGRC) Stock On An Uptrend: Could Fundamentals Be Driving The Momentum?
McGrath RentCorp's (NASDAQ:MGRC) stock is up by a considerable 12% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Particularly, we will be paying attention to McGrath RentCorp's ROE today.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
Check out our latest analysis for McGrath RentCorp
How Do You Calculate Return On Equity?
ROE 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 McGrath RentCorp is:
13% = US$97m ÷ US$752m (Based on the trailing twelve months to June 2022).
The 'return' is the amount earned after tax over the last twelve months. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.13.
What Is The Relationship Between ROE And Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
McGrath RentCorp's Earnings Growth And 13% ROE
At first glance, McGrath RentCorp seems to have a decent ROE. Be that as it may, the company's ROE is still quite lower than the industry average of 22%. Further research shows that McGrath RentCorp's net income has shrunk at a rate of 3.3% over the last five years. Not to forget, the company does have a high ROE to begin with, just that it is lower than the industry average. Hence there might be some other aspects that are causing earnings to shrink. These include low earnings retention or poor allocation of capital.
So, as a next step, we compared McGrath RentCorp's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 16% in the same period.
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 MGRC fairly valued? This infographic on the company's intrinsic value has everything you need to know.
Is McGrath RentCorp Efficiently Re-investing Its Profits?
In spite of a normal three-year median payout ratio of 41% (that is, a retention ratio of 59%), the fact that McGrath RentCorp's earnings have shrunk is quite puzzling. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.
In addition, McGrath RentCorp has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 37%. As a result, McGrath RentCorp's ROE is not expected to change by much either, which we inferred from the analyst estimate of 15% for future ROE.
Summary
Overall, we feel that McGrath RentCorp certainly does have some positive factors to consider. Although, we are disappointed to see a lack of growth in earnings even in spite of a moderate ROE and and a high reinvestment rate. We believe that there might be some outside factors that could be having a negative impact on the business. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. 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.
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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.
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