With its stock down 25% over the past three months, it is easy to disregard Mesa Royalty Trust (NYSE:MTR). However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on Mesa Royalty Trust's ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

Check out our latest analysis for Mesa Royalty Trust

How Do You Calculate Return On Equity?

ROE 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 Mesa Royalty Trust is:

28% = US$880k ÷ US$3.1m (Based on the trailing twelve months to June 2024).

The 'return' is the yearly profit. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.28 in profit.

Why Is ROE Important For 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

A Side By Side comparison of Mesa Royalty Trust's Earnings Growth And 28% ROE

First thing first, we like that Mesa Royalty Trust has an impressive ROE. Secondly, even when compared to the industry average of 16% the company's ROE is quite impressive. As a result, Mesa Royalty Trust's exceptional 21% net income growth seen over the past five years, doesn't come as a surprise.

As a next step, we compared Mesa Royalty Trust's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 40% in the same period.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for MTR? You can find out in our latest intrinsic value infographic research report

Is Mesa Royalty Trust Making Efficient Use Of Its Profits?

The high three-year median payout ratio of 100% (implying that it keeps only 0.3% of profits) for Mesa Royalty Trust suggests that the company's growth wasn't really hampered despite it returning most of the earnings to its shareholders.

Moreover, Mesa Royalty Trust is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years.

Conclusion

On the whole, we do feel that Mesa Royalty Trust has some positive attributes. As noted earlier, its earnings growth has been quite decent, and the high ROE does contribute to that growth. Still, the company invests little to almost none of its profits. This could potentially reduce the odds that the company continues to see the same level of growth in the future. Up till now, we've only made a short study of the company's growth data. You can do your own research on Mesa Royalty Trust and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.

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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.