Mullen Group Ltd.'s (TSE:MTL) Stock's Been Going Strong: Could Weak Financials Mean The Market Will Coorect Its Share Price?

Mullen Group (TSE:MTL) has had a great run on the share market with its stock up by a significant 10% over the last month. However, we decided to pay close attention to its weak financials as we are doubtful that the current momentum will keep up, given the scenario. In this article, we decided to focus on Mullen Group's 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.

View our latest analysis for Mullen Group

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 Mullen Group is:

7.0% = CA$62m ÷ CA$895m (Based on the trailing twelve months to September 2020).

The 'return' is the amount earned after tax over the last twelve months. That means that for every CA$1 worth of shareholders' equity, the company generated CA$0.07 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. 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 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.

Mullen Group's Earnings Growth And 7.0% ROE

When you first look at it, Mullen Group's ROE doesn't look that attractive. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 15%. Given the circumstances, the significant decline in net income by 3.3% seen by Mullen Group over the last five years is not surprising. We reckon that there could also be other factors at play here. For example, it is possible that the business has allocated capital poorly or that the company has a very high payout ratio.

That being said, we compared Mullen Group's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 11% in the same period.

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. Has the market priced in the future outlook for MTL? You can find out in our latest intrinsic value infographic research report.

Is Mullen Group Efficiently Re-investing Its Profits?

With a high three-year median payout ratio of 64% (implying that 36% of the profits are retained), most of Mullen Group's 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. You can see the 3 risks we have identified for Mullen Group by visiting our risks dashboard for free on our platform here.

Additionally, Mullen Group 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. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 71%. As a result, Mullen Group's ROE is not expected to change by much either, which we inferred from the analyst estimate of 7.2% for future ROE.

Summary

Overall, we would be extremely cautious before making any decision on Mullen Group. As a result of its low ROE and lack of mich reinvestment into the business, the company has seen a disappointing earnings growth rate. Additionally, the latest industry analyst forecasts show that the company is expected to continue to see a similar decline in its earnings in the future as well. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

If you’re looking to trade Mullen Group, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.