Is The Market Rewarding United-Guardian, Inc. (NASDAQ:UG) With A Negative Sentiment As A Result Of Its Mixed Fundamentals?

United-Guardian (NASDAQ:UG) has had a rough three months with its share price down 4.1%. It is possible that the markets have ignored the company's differing financials and decided to lean-in to the negative sentiment. Stock prices are usually driven by a company’s financial performance over the long term, and therefore we decided to pay more attention to the company's financial performance. Particularly, we will be paying attention to United-Guardian's 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

Check out our latest analysis for United-Guardian

How Is ROE Calculated?

Return on equity 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 United-Guardian is:

36% = US$4.1m ÷ US$11m (Based on the trailing twelve months to September 2020).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.36 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.

United-Guardian's Earnings Growth And 36% ROE

Firstly, we acknowledge that United-Guardian has a significantly high ROE. Additionally, the company's ROE is higher compared to the industry average of 16% which is quite remarkable. Yet, United-Guardian has posted measly growth of 4.7% over the past five years. This is interesting as the high returns should mean that the company has the ability to generate high growth but for some reason, it hasn't been able to do so. A few likely reasons why this could happen is that the company could have a high payout ratio or the business has allocated capital poorly, for instance.

As a next step, we compared United-Guardian's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 15% in the same period.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about United-Guardian's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is United-Guardian Using Its Retained Earnings Effectively?

United-Guardian has a very high three-year median payout ratio of 107%suggesting that the company's shareholders are getting paid from more than just the company's income. This is quite a risky position to be in. To know the 2 risks we have identified for United-Guardian visit our risks dashboard for free.

Moreover, United-Guardian has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth.

Conclusion

In total, we're a bit ambivalent about United-Guardian's performance. While the company does have a high rate of return, its low earnings retention is probably what's hampering its earnings growth. Up till now, we've only made a short study of the company's growth data. You can do your own research on United-Guardian and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.

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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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