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Mayfield Childcare's (ASX:MFD) stock up by 5.9% over the past three months. Given its impressive performance, we decided to study the company's key financial indicators as a company's long-term fundamentals usually dictate market outcomes. In this article, we decided to focus on Mayfield Childcare's ROE.
Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
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 Mayfield Childcare is:
12% = AU$3.7m ÷ AU$30m (Based on the trailing twelve months to December 2020).
The 'return' is the profit over the last twelve months. Another way to think of that is that for every A$1 worth of equity, the company was able to earn A$0.12 in profit.
What Has ROE Got To Do With Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
Mayfield Childcare's Earnings Growth And 12% ROE
To begin with, Mayfield Childcare seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 10%. Probably as a result of this, Mayfield Childcare was able to see an impressive net income growth of 25% over the last five years. However, there could also be other causes behind this growth. Such as - high earnings retention or an efficient management in place.
We then performed a comparison between Mayfield Childcare's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 22% in the same period.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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 Mayfield Childcare's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Mayfield Childcare Efficiently Re-investing Its Profits?
Mayfield Childcare has a significant three-year median payout ratio of 69%, meaning the company only retains 31% of its income. This implies that the company has been able to achieve high earnings growth despite returning most of its profits to shareholders.
Moreover, Mayfield Childcare is determined to keep sharing its profits with shareholders which we infer from its long history of three years of paying a dividend. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 56% of its profits over the next three years. As a result, Mayfield Childcare's ROE is not expected to change by much either, which we inferred from the analyst estimate of 13% for future ROE.
In total, we are pretty happy with Mayfield Childcare's performance. Especially the high ROE, Which has contributed to the impressive growth seen in earnings. Despite the company reinvesting only a small portion of its profits, it still has managed to grow its earnings so that is appreciable. 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.
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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