It is hard to get excited after looking at Meritage Homes' (NYSE:MTH) recent performance, when its stock has declined 23% over the past three months. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Particularly, we will be paying attention to Meritage Homes' ROE today.
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. 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 Meritage Homes
How Do You Calculate Return On Equity?
The formula for return on equity is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Meritage Homes is:
15% = US$786m ÷ US$5.1b (Based on the trailing twelve months to December 2024).
The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.15 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. 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. 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.
Meritage Homes' Earnings Growth And 15% ROE
To start with, Meritage Homes' ROE looks acceptable. Even when compared to the industry average of 16% the company's ROE looks quite decent. Consequently, this likely laid the ground for the decent growth of 18% seen over the past five years by Meritage Homes.
As a next step, we compared Meritage Homes' net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 17% 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). Doing so will help them establish if the stock's future looks promising or ominous. What is MTH worth today? The intrinsic value infographic in our free research report helps visualize whether MTH is currently mispriced by the market.
Is Meritage Homes Using Its Retained Earnings Effectively?
Meritage Homes' three-year median payout ratio to shareholders is 6.3% (implying that it retains 94% of its income), which is on the lower side, so it seems like the management is reinvesting profits heavily to grow its business.
While Meritage Homes has seen growth in its earnings, it only recently started to pay a dividend. It is most likely that the company decided to impress new and existing shareholders with a dividend. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 15% over the next three years. Regardless, the ROE is not expected to change much for the company despite the higher expected payout ratio.
Summary
In total, we are pretty happy with Meritage Homes' performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.
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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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