With its stock down 19% over the past three months, it is easy to disregard Mader Group (ASX:MAD). However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Specifically, we decided to study Mader Group's  ROE in this article.

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 Mader Group

How Is ROE Calculated?

The formula for ROE is:

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

So, based on the above formula, the ROE for Mader Group is:

32% = AU$23m ÷ AU$70m (Based on the trailing twelve months to December 2021).

The 'return' is the amount earned after tax over the last twelve months. So, this means that for every A$1 of its shareholder's investments, the company generates a profit of A$0.32.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

Mader Group's Earnings Growth And 32% ROE

To begin with, Mader Group has a pretty high ROE which is interesting. Second, a comparison with the average ROE reported by the industry of 7.0% also doesn't go unnoticed by us. Under the circumstances, Mader Group's considerable five year net income growth of 24% was to be expected.

Next, on comparing with the industry net income growth, we found that Mader Group's growth is quite high when compared to the industry average growth of 4.3% in the same period, which is great to see.

 past-earnings-growth

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. Doing so will help them establish if the stock's future looks promising or ominous. Is Mader Group fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Mader Group Making Efficient Use Of Its Profits?

The three-year median payout ratio for Mader Group is 31%, which is moderately low. The company is retaining the remaining 69%. By the looks of it, the dividend is well covered and Mader Group is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.

While Mader Group has been growing its earnings, it only recently started to pay dividends which likely means that the company decided to impress new and existing shareholders with a dividend. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 33%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 31%.

Summary

On the whole, we feel that Mader Group's performance has been quite good. 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. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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.

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