Is MHM Automation Limited's (NZSE:MHM) Latest Stock Performance A Reflection Of Its Financial Health?

MHM Automation (NZSE:MHM) has had a great run on the share market with its stock up by a significant 13% over the last month. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. In this article, we decided to focus on MHM Automation's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

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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 MHM Automation is:

15% = NZ$1.8m ÷ NZ$12m (Based on the trailing twelve months to June 2022).

The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every NZ$1 worth of equity, the company was able to earn NZ$0.15 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.

MHM Automation's Earnings Growth And 15% ROE

To start with, MHM Automation's ROE looks acceptable. Even when compared to the industry average of 15% the company's ROE looks quite decent. This certainly adds some context to MHM Automation's exceptional 69% net income growth seen over the past five years. We reckon that there could also be other factors at play here. For instance, the company has a low payout ratio or is being managed efficiently.

We then compared MHM Automation's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 22% in the same period.

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). Doing so will help them establish if the stock's future looks promising or ominous. Is MHM Automation fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is MHM Automation Efficiently Re-investing Its Profits?

MHM Automation's three-year median payout ratio to shareholders is 18%, which is quite low. This implies that the company is retaining 82% of its profits. So it seems like the management is reinvesting profits heavily to grow its business and this reflects in its earnings growth number.

Conclusion

Overall, we are quite pleased with MHM Automation's performance. 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 sizeable 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. Not to forget, share price outcomes are also dependent on the potential risks a company may face. So it is important for investors to be aware of the risks involved in the business. Our risks dashboard would have the 2 risks we have identified for MHM Automation.

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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.