Is Mercury NZ Limited's (NZSE:MCY) Stock On A Downtrend As A Result Of Its Poor Financials?

With its stock down 8.0% over the past three months, it is easy to disregard Mercury NZ (NZSE:MCY). To decide if this trend could continue, we decided to look at its weak fundamentals as they shape the long-term market trends. Specifically, we decided to study Mercury NZ's ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Put another way, it reveals the company's success at turning shareholder investments into profits.

Our free stock report includes 2 warning signs investors should be aware of before investing in Mercury NZ. Read for free now.

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 Mercury NZ is:

1.0% = NZ$49m ÷ NZ$4.7b (Based on the trailing twelve months to December 2024).

The 'return' is the income the business earned over the last year. So, this means that for every NZ$1 of its shareholder's investments, the company generates a profit of NZ$0.01.

See our latest analysis for Mercury NZ

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.

A Side By Side comparison of Mercury NZ's Earnings Growth And 1.0% ROE

It is hard to argue that Mercury NZ's ROE is much good in and of itself. Even when compared to the industry average of 8.5%, the ROE figure is pretty disappointing. Given the circumstances, the significant decline in net income by 13% seen by Mercury NZ over the last five years is not surprising. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

So, as a next step, we compared Mercury NZ's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 20% over the last few years.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Mercury NZ's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Mercury NZ Making Efficient Use Of Its Profits?

Mercury NZ's high three-year median payout ratio of 149% suggests that the company is depleting its resources to keep up its dividend payments, and this shows in its shrinking earnings. Its usually very hard to sustain dividend payments that are higher than reported profits. Our risks dashboard should have the 2 risks we have identified for Mercury NZ.

Additionally, Mercury NZ 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. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 117% over the next three years. As a result, the expected drop in Mercury NZ's payout ratio explains the anticipated rise in the company's future ROE to 7.2%, over the same period.

Summary

On the whole, Mercury NZ's performance is quite a big let-down. The low ROE, combined with the fact that the company is paying out almost if not all, of its profits as dividends, has resulted in the lack or absence of growth in its earnings. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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.

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.