Should Weakness in Northern Technologies International Corporation's (NASDAQ:NTIC) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?
With its stock down 15% over the past three months, it is easy to disregard Northern Technologies International (NASDAQ:NTIC). However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Specifically, we decided to study Northern Technologies International's ROE in this article.
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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.
See our latest analysis for Northern Technologies International
How Is ROE Calculated?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Northern Technologies International is:
11% = US$7.0m ÷ US$66m (Based on the trailing twelve months to August 2021).
The 'return' is the income the business earned over the last year. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.11.
Why Is ROE Important For Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.
Northern Technologies International's Earnings Growth And 11% ROE
To begin with, Northern Technologies International seems to have a respectable ROE. Be that as it may, the company's ROE is still quite lower than the industry average of 14%. Additionally, the low net income growth of 4.2% seen by Northern Technologies International over the past five years doesn't paint a very bright picture. Not to forget, the company does have a decent ROE to begin with, just that it is lower than the industry average. So there might be other reasons for the earnings growth to be low. Such as, the company pays out a huge portion of its earnings as dividends, or is facing competitive pressures.
We then compared Northern Technologies International's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 6.0% in the same period, which is a bit concerning.
Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Northern Technologies International is trading on a high P/E or a low P/E, relative to its industry.
Is Northern Technologies International Making Efficient Use Of Its Profits?
Despite having a normal three-year median payout ratio of 28% (or a retention ratio of 72% over the past three years, Northern Technologies International has seen very little growth in earnings as we saw above. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.
In addition, Northern Technologies International has been paying dividends over a period of four years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.
Summary
In total, it does look like Northern Technologies International has some positive aspects to its business. Yet, the low earnings growth is a bit concerning, especially given that the company has a respectable rate of return and is reinvesting a huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that's preventing growth. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.
