Micron Technology (NASDAQ:MU) has had a rough three months with its share price down 11%. It is possible that the markets have ignored the company's differing financials and decided to lean-in to the negative sentiment. Long-term fundamentals are usually what drive market outcomes, so it's worth paying close attention. Specifically, we decided to study Micron Technology's ROE in this article.

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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Micron Technology

How Is ROE Calculated?

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 Micron Technology is:

8.3% = US$3.9b ÷ US$47b (Based on the trailing twelve months to November 2024).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.08 in profit.

What Is The Relationship Between ROE And 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. 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.

Micron Technology's Earnings Growth And 8.3% ROE

At first glance, Micron Technology's ROE doesn't look very promising. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 11%. Given the circumstances, the significant decline in net income by 27% seen by Micron Technology over the last five years is not surprising. However, there could also be other factors causing the earnings to decline. For example, it is possible that the business has allocated capital poorly or that the company has a very high payout ratio.

That being said, we compared Micron Technology's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 17% in the same 5-year 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). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is MU fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Micron Technology Making Efficient Use Of Its Profits?

When we piece together Micron Technology's low three-year median payout ratio of 2.6% (where it is retaining 97% of its profits), calculated for the last three-year period, we are puzzled by the lack of growth. The low payout should mean that the company is retaining most of its earnings and consequently, should see some growth. So there might be other factors at play here which could potentially be hampering growth. For instance, the business has faced some headwinds.

Moreover, Micron Technology has been paying dividends for four years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer consistent dividends even though earnings have been shrinking. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 4.9% over the next three years. However, Micron Technology's future ROE is expected to rise to 22% despite the expected increase in the company's payout ratio. We infer that there could be other factors that could be driving the anticipated growth in the company's ROE.

Conclusion

Overall, we have mixed feelings about Micron Technology. 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. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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.