Three Stocks With Legitimately High Returns on Equity: Mastercard Inc (MA), Monster Beverage Corp (MNST), Fossil Inc (FOSL)

The investing measure known as return on equity is a popular metric in which an investor can evaluate a management team’s effectiveness. Return on equity addresses how much profit a company turns from the amount of money shareholders have invested. The higher the percentage, the better a company’s management is at employing a firm’s equity in a manner that is accretive to shareholders. It’s a fairly straightforward concept, but at the same time is vulnerable to manipulation.

The way to calculate return on equity is to divide trailing twelve month net income by total shareholder equity. However, the amount of shareholder equity on a company’s balance sheet is derived from the relationship between the corresponding assets and liabilities. It’s possible to have a rather highly indebted company exhibit a high return on equity, and therefore mislead investors. After all, the more liabilities on a company’s balance sheet, the lower the level of shareholder equity (since assets+liabilities=equity). Lower shareholder equity is a lower denominator in the return on equity calculation—and therefore a higher resulting ROE.

However, there do exist companies that not only have high returns on equity, but also have low levels of debt on the balance sheet.  In this sense, these companies truly ‘earn’ their high returns on equity.

Diverse stocks with two similarities: high growth, no debt

Monster Beverage Corp (NASDAQ:MNST) is a marketer and distributor of energy drinks and alternative beverages. Net sales rose 15% during the fourth quarter and 21% for the full year. Net income clocked in at $1.86 per diluted share during 2012, as opposed to $1.53 per diluted share the year prior, representing a 22% increase.

Monster Beverage Corp (NASDAQ:MNST) carries a spectacular return on equity ratio of 53%, with negligible long-term debt on the balance sheet. In addition, the company sports a current ratio of 2.9 times, meaning Monster Beverage Corp (NASDAQ:MNST) has almost three times as much short-term assets as short-term liabilities.

Mastercard Inc (NYSE:MA) is a $63 billion credit card giant, and has performed incredibly as of late. The company’s shares have almost doubled over the last two years. Mastercard Inc (NYSE:MA) reported positive results for its fiscal fourth-quarter, with revenues rising 10%. Earnings per share clocked in at $4.86, beating analyst expectations by five cents.

Full-year results were even more impressive, as diluted earnings per share soared 48% on the strength of a 10% increase in net revenues year over year. Furthermore, the growth profile for Mastercard Inc (NYSE:MA) going forward is encouraging, as the company’s focus on emerging markets has led it to predict 20 percent compounded annual growth of earnings per share from 2013-2015.

Mastercard Inc (NYSE:MA)’s return on equity is a very solid 40%, especially when you consider that the company carries a current ratio of 1.9 times and a long term debt-to-equity ratio of just 9%.