Has Open joint stock company Solikamsk magnesium works' (MCX:MGNZ) Impressive Stock Performance Got Anything to Do With Its Fundamentals?

Most readers would already be aware that Solikamsk magnesium works' (MCX:MGNZ) stock increased significantly by 82% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. In this article, we decided to focus on Solikamsk magnesium works' ROE.

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.

View our latest analysis for Solikamsk magnesium works

How Is ROE Calculated?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Solikamsk magnesium works is:

9.1% = ₽307m ÷ ₽3.4b (Based on the trailing twelve months to September 2020).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every RUB1 worth of equity, the company was able to earn RUB0.09 in profit.

What Has ROE Got To Do With 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.

A Side By Side comparison of Solikamsk magnesium works' Earnings Growth And 9.1% ROE

It is quite clear that Solikamsk magnesium works' ROE is rather low. Further, we noted that the company's ROE is similar to the industry average of 9.2%. However, the modest 17% net income growth seen by Solikamsk magnesium works over the past five years is a positive sign. Considering the low ROE, it is quite possible that there might also be some other aspects that are positively influencing the company's earnings growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

We then compared Solikamsk magnesium works' 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 0.8% in the same period.

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 Solikamsk magnesium works is trading on a high P/E or a low P/E, relative to its industry.

Is Solikamsk magnesium works Using Its Retained Earnings Effectively?

In Solikamsk magnesium works' case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 21% (or a retention ratio of 79%), which suggests that the company is investing most of its profits to grow its business.

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

Conclusion

Overall, we feel that Solikamsk magnesium works certainly does have some positive factors to consider. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. You can see the 2 risks we have identified for Solikamsk magnesium works by visiting our risks dashboard for free on our platform here.

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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.
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