Power Solutions, Ltd.'s (TSE:4450) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?

It is hard to get excited after looking at Power Solutions' (TSE:4450) recent performance, when its stock has declined 12% over the past week. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Particularly, we will be paying attention to Power Solutions' ROE today.

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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Trump has pledged to "unleash" American oil and gas and these 15 US stocks have developments that are poised to benefit.

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 Power Solutions is:

12% = JP¥417m ÷ JP¥3.5b (Based on the trailing twelve months to June 2025).

The 'return' is the profit over the last twelve months. Another way to think of that is that for every ¥1 worth of equity, the company was able to earn ¥0.12 in profit.

See our latest analysis for Power Solutions

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. 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.

Power Solutions' Earnings Growth And 12% ROE

To begin with, Power Solutions seems to have a respectable ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 14%. Consequently, this likely laid the ground for the decent growth of 6.4% seen over the past five years by Power Solutions.

We then compared Power Solutions' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 13% in the same 5-year period, which is a bit concerning.

Earnings growth is an important metric to consider when valuing a stock. 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. Is 4450 fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Power Solutions Efficiently Re-investing Its Profits?

Power Solutions has a low three-year median payout ratio of 17%, meaning that the company retains the remaining 83% of its profits. This suggests that the management is reinvesting most of the profits to grow the business.

Along with seeing a growth in earnings, Power Solutions only recently started paying dividends. Its quite possible that the company was looking to impress its shareholders.

Conclusion

On the whole, we feel that Power Solutions' performance has been quite good. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a respectable growth in its earnings. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. Our risks dashboard will have the 1 risk we have identified for Power Solutions.

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.