Declining Stock and Decent Financials: Is The Market Wrong About Shell plc (LON:SHEL)?

It is hard to get excited after looking at Shell's (LON:SHEL) recent performance, when its stock has declined 7.7% over the past three months. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Specifically, we decided to study Shell's ROE in this article.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Our free stock report includes 1 warning sign investors should be aware of before investing in Shell. Read for free now.

How Do You 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 Shell is:

7.7% = US$14b ÷ US$181b (Based on the trailing twelve months to March 2025).

The 'return' is the amount earned after tax over the last twelve months. So, this means that for every £1 of its shareholder's investments, the company generates a profit of £0.08.

See our latest analysis for Shell

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.

Shell's Earnings Growth And 7.7% ROE

At first glance, Shell's ROE doesn't look very promising. Yet, a closer study shows that the company's ROE is similar to the industry average of 9.3%. Looking at Shell's exceptional 31% five-year net income growth in particular, we are definitely impressed. Considering the moderately low ROE, it is quite possible that there might be some other aspects that are positively influencing the company's earnings 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.

We then performed a comparison between Shell's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 28% in the same 5-year period.

Earnings growth is an important metric to consider when valuing a stock. 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. If you're wondering about Shell's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Shell Using Its Retained Earnings Effectively?

Shell has a three-year median payout ratio of 35% (where it is retaining 65% of its income) which is not too low or not too high. So it seems that Shell 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, Shell 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 over the next three years is expected to be approximately 37%. Regardless, the future ROE for Shell is predicted to rise to 12% despite there being not much change expected in its payout ratio.

Conclusion

In total, it does look like Shell has some positive aspects to its business. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.