Methode Electronics, Inc.'s (NYSE:MEI) Stock's On An Uptrend: Are Strong Financials Guiding The Market?

Methode Electronics' (NYSE:MEI) stock is up by a considerable 12% over the past 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. Specifically, we decided to study Methode Electronics' ROE in this article.

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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Methode Electronics

How To Calculate Return On Equity?

ROE 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 Methode Electronics is:

14% = US$131m ÷ US$934m (Based on the trailing twelve months to July 2021).

The 'return' refers to a company's earnings over the last year. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.14.

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 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.

Methode Electronics' Earnings Growth And 14% ROE

To begin with, Methode Electronics seems to have a respectable ROE. Further, the company's ROE is similar to the industry average of 14%. Consequently, this likely laid the ground for the decent growth of 12% seen over the past five years by Methode Electronics.

Next, on comparing Methode Electronics' net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 14% in the same period.

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for MEI? You can find out in our latest intrinsic value infographic research report.

Is Methode Electronics Efficiently Re-investing Its Profits?

In Methode Electronics' case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 14% (or a retention ratio of 86%), which suggests that the company is investing most of its profits to grow its business.

Additionally, Methode Electronics has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders.

Conclusion

In total, we are pretty happy with Methode Electronics' performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial 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. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. You can see the 1 risk we have identified for Methode Electronics by visiting our risks dashboard for free on our platform here.

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.

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