In This Article:
Meridian Energy's (NZSE:MEL) stock is up by a considerable 12% over the past three months. However, we decided to pay close attention to its weak financials as we are doubtful that the current momentum will keep up, given the scenario. Specifically, we decided to study Meridian Energy's 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 Meridian Energy
How To Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Meridian Energy is:
1.4% = NZ$85m ÷ NZ$5.9b (Based on the trailing twelve months to December 2023).
The 'return' is the amount earned after tax over the last twelve months. That means that for every NZ$1 worth of shareholders' equity, the company generated NZ$0.01 in profit.
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 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.
A Side By Side comparison of Meridian Energy's Earnings Growth And 1.4% ROE
It is hard to argue that Meridian Energy's ROE is much good in and of itself. Even compared to the average industry ROE of 2.5%, the company's ROE is quite dismal. For this reason, Meridian Energy's five year net income decline of 4.0% is not surprising given its lower ROE. However, there could also be other factors causing the earnings to decline. Such as - low earnings retention or poor allocation of capital.
However, when we compared Meridian Energy's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 35% in the same period. This is quite worrisome.
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). Doing so will help them establish if the stock's future looks promising or ominous. Is MEL fairly valued? This infographic on the company's intrinsic value has everything you need to know.