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MV Oil Trust's (NYSE:MVO) stock is up by a considerable 24% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. In this article, we decided to focus on MV Oil Trust's ROE.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.
How To Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for MV Oil Trust is:
53% = US$4.8m ÷ US$9.0m (Based on the trailing twelve months to June 2021).
The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.53 in profit.
What Is The Relationship Between ROE And Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.
MV Oil Trust's Earnings Growth And 53% ROE
First thing first, we like that MV Oil Trust has an impressive ROE. Additionally, the company's ROE is higher compared to the industry average of 12% which is quite remarkable. Yet, MV Oil Trust has posted measly growth of 4.3% over the past five years. This is generally not the case as when a company has a high rate of return it should usually also have a high earnings growth rate. We reckon that a low growth, when returns are quite high could be the result of certain circumstances like low earnings retention or or poor allocation of capital.
Next, on comparing MV Oil Trust's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 3.7% in the same period.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. If you're wondering about MV Oil Trust's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is MV Oil Trust Making Efficient Use Of Its Profits?
MV Oil Trust has a three-year median payout ratio of 92% (implying that it keeps only 8.4% of its profits), meaning that it pays out most of its profits to shareholders as dividends, and as a result, the company has seen low earnings growth.
In addition, MV Oil Trust has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.
In total, it does look like MV Oil Trust has some positive aspects to its business. The company has grown its earnings moderately as a result of its impressive ROE. Yet, the business is retaining hardly any of its profits. This might have negative implications on the company's future growth. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. You can see the 3 risks we have identified for MV Oil Trust by visiting our risks dashboard for free on our platform here.
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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