Is Weakness In Morgan Advanced Materials plc (LON:MGAM) Stock A Sign That The Market Could be Wrong Given Its Strong Financial Prospects?
It is hard to get excited after looking at Morgan Advanced Materials' (LON:MGAM) recent performance, when its stock has declined 9.9% over the past three months. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Morgan Advanced Materials' 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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
See our latest analysis for Morgan Advanced Materials
How Is ROE Calculated?
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 Morgan Advanced Materials is:
17% = UK£67m ÷ UK£397m (Based on the trailing twelve months to June 2023).
The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.17 in profit.
What Has ROE Got To Do With Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.
A Side By Side comparison of Morgan Advanced Materials' Earnings Growth And 17% ROE
At first glance, Morgan Advanced Materials seems to have a decent ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 14%. This probably goes some way in explaining Morgan Advanced Materials' moderate 6.7% growth over the past five years amongst other factors.
We then performed a comparison between Morgan Advanced Materials' net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 7.1% in the same 5-year period.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. What is MGAM worth today? The intrinsic value infographic in our free research report helps visualize whether MGAM is currently mispriced by the market.
Is Morgan Advanced Materials Using Its Retained Earnings Effectively?
With a three-year median payout ratio of 45% (implying that the company retains 55% of its profits), it seems that Morgan Advanced Materials is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.
Besides, Morgan Advanced Materials has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 42%. However, Morgan Advanced Materials' ROE is predicted to rise to 20% despite there being no anticipated change in its payout ratio.
Summary
In total, we are pretty happy with Morgan Advanced Materials' performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
