Investors in Donaldson Company (NYSE:DCI) have seen favorable returns of 32% over the past three years

Thanks in no small measure to Vanguard founder Jack Bogle, it's easy buy a low cost index fund, which should provide the average market return. But you can make better returns by buying undervalued shares. Notably, the Donaldson Company, Inc. (NYSE:DCI) share price has gained 26% in three years, which is better than the average market return. More recently the stock has gained 10% in a year, which isn't too bad.

So let's assess the underlying fundamentals over the last 3 years and see if they've moved in lock-step with shareholder returns.

Check out our latest analysis for Donaldson Company

While the efficient markets hypothesis continues to be taught by some, it has been proven that markets are over-reactive dynamic systems, and investors are not always rational. By comparing earnings per share (EPS) and share price changes over time, we can get a feel for how investor attitudes to a company have morphed over time.

During three years of share price growth, Donaldson Company achieved compound earnings per share growth of 14% per year. The average annual share price increase of 8% is actually lower than the EPS growth. So one could reasonably conclude that the market has cooled on the stock.

The graphic below depicts how EPS has changed over time (unveil the exact values by clicking on the image).

We know that Donaldson Company has improved its bottom line lately, but is it going to grow revenue? This free report showing analyst revenue forecasts should help you figure out if the EPS growth can be sustained.

What About Dividends?

It is important to consider the total shareholder return, as well as the share price return, for any given stock. The TSR is a return calculation that accounts for the value of cash dividends (assuming that any dividend received was reinvested) and the calculated value of any discounted capital raisings and spin-offs. So for companies that pay a generous dividend, the TSR is often a lot higher than the share price return. We note that for Donaldson Company the TSR over the last 3 years was 32%, which is better than the share price return mentioned above. And there's no prize for guessing that the dividend payments largely explain the divergence!

A Different Perspective

Donaldson Company shareholders gained a total return of 12% during the year. But that was short of the market average. On the bright side, that's still a gain, and it's actually better than the average return of 6% over half a decade It is possible that returns will improve along with the business fundamentals. It's always interesting to track share price performance over the longer term. But to understand Donaldson Company better, we need to consider many other factors. Case in point: We've spotted 1 warning sign for Donaldson Company you should be aware of.

If you would prefer to check out another company -- one with potentially superior financials -- then do not miss this free list of companies that have proven they can grow earnings.

Please note, the market returns quoted in this article reflect the market weighted average returns of stocks that currently trade on American exchanges.

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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.