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Most readers would already be aware that Mountview Estates' (LON:MTVW) stock increased significantly by 16% over the past three months. However, in this article, we decided to focus on its weak fundamentals, as long-term financial performance of a business is what ultimatley dictates market outcomes. In this article, we decided to focus on Mountview Estates' ROE.
ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
How To Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Mountview Estates is:
6.6% = UK£25m ÷ UK£383m (Based on the trailing twelve months to March 2021).
The 'return' refers to a company's earnings over the last year. That means that for every £1 worth of shareholders' equity, the company generated £0.07 in profit.
What Has ROE Got To Do With Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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. 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.
Mountview Estates' Earnings Growth And 6.6% ROE
At first glance, Mountview Estates' ROE doesn't look very promising. However, given that the company's ROE is similar to the average industry ROE of 6.8%, we may spare it some thought. Having said that, Mountview Estates' five year net income decline rate was 8.6%. Remember, the company's ROE is a bit low to begin with. Therefore, the decline in earnings could also be the result of this.
As a next step, we compared Mountview Estates' performance with the industry and found thatMountview Estates' performance is depressing even when compared with the industry, which has shrunk its earnings at a rate of 3.3% in the same period, which is a slower than the company.
Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. One 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 prospects. So, you may want to check if Mountview Estates is trading on a high P/E or a low P/E, relative to its industry.
Is Mountview Estates Efficiently Re-investing Its Profits?
With a high three-year median payout ratio of 55% (implying that 45% of the profits are retained), most of Mountview Estates' profits are being paid to shareholders, which explains the company's shrinking earnings. With only very little left to reinvest into the business, growth in earnings is far from likely.
Additionally, Mountview Estates has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.
In total, we would have a hard think before deciding on any investment action concerning Mountview Estates. The company has seen a lack of earnings growth as a result of retaining very little profits and whatever little it does retain, is being reinvested at a very low rate of return. Until now, we have only just grazed the surface of the company's past performance by looking at the company's fundamentals. To gain further insights into Mountview Estates' past profit growth, check out this visualization of past earnings, revenue and cash flows.
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. 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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