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Is MaxiPARTS Limited's (ASX:MXI) Stock Price Struggling As A Result Of Its Mixed Financials?

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It is hard to get excited after looking at MaxiPARTS' (ASX:MXI) recent performance, when its stock has declined 29% over the past three months. It seems that the market might have completely ignored the positive aspects of the company's fundamentals and decided to weigh-in more on the negative aspects. Stock prices are usually driven by a companyâ€™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 MaxiPARTS' ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investorsâ€™ money. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

View our latest analysis for MaxiPARTS

How Do You Calculate Return On Equity?

ROE can be calculated by using the formula:

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

So, based on the above formula, the ROE for MaxiPARTS is:

6.9% = AU\$5.7m Ã· AU\$83m (Based on the trailing twelve months to June 2021).

The 'return' is the income the business earned over the last year. So, this means that for every A\$1 of its shareholder's investments, the company generates a profit of A\$0.07.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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 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.

MaxiPARTS' Earnings Growth And 6.9% ROE

On the face of it, MaxiPARTS' ROE is not much to talk about. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 13% either. Therefore, it might not be wrong to say that the five year net income decline of 38% seen by MaxiPARTS was probably the result of it having a lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

However, when we compared MaxiPARTS' growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 26% in the same period. This is quite worrisome.

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. Doing so will help them establish if the stock's future looks promising or ominous. 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 MaxiPARTS is trading on a high P/E or a low P/E, relative to its industry.

Is MaxiPARTS Using Its Retained Earnings Effectively?

While the company did payout a portion of its dividend in the past, it currently doesn't pay a dividend. This implies that potentially all of its profits are being reinvested in the business.

Conclusion

In total, we're a bit ambivalent about MaxiPARTS' performance. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. 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.

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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.

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