Monolithic Power Systems, Inc. (NASDAQ:MPWR) Stock Has Shown Weakness Lately But Financials Look Strong: Should Prospective Shareholders Make The Leap?

With its stock down 32% over the past three months, it is easy to disregard Monolithic Power Systems (NASDAQ:MPWR). 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 Monolithic Power Systems' 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for Monolithic Power Systems

How To 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 Monolithic Power Systems is:

18% = US$434m ÷ US$2.4b (Based on the trailing twelve months to September 2024).

The 'return' is the profit over the last twelve months. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.18.

Why Is ROE Important For Earnings Growth?

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

Monolithic Power Systems' Earnings Growth And 18% ROE

To start with, Monolithic Power Systems' ROE looks acceptable. Further, the company's ROE compares quite favorably to the industry average of 11%. This probably laid the ground for Monolithic Power Systems' significant 29% net income growth seen over the past five years. However, there could also be other causes behind this growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

As a next step, we compared Monolithic Power Systems' net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 20%.

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). This then helps them determine if the stock is placed for a bright or bleak future. Is Monolithic Power Systems fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Monolithic Power Systems Efficiently Re-investing Its Profits?

The three-year median payout ratio for Monolithic Power Systems is 43%, which is moderately low. The company is retaining the remaining 57%. So it seems that Monolithic Power Systems is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

Additionally, Monolithic Power Systems has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 26% over the next three years. As a result, the expected drop in Monolithic Power Systems' payout ratio explains the anticipated rise in the company's future ROE to 26%, over the same period.

Conclusion

On the whole, we feel that Monolithic Power Systems' performance has been quite good. 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. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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.