Are United Drilling Tools Limited's (NSE:UNIDT) Mixed Financials The Reason For Its Gloomy Performance on The Stock Market?

United Drilling Tools (NSE:UNIDT) has had a rough month with its share price down 13%. 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 United Drilling Tools' ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for United Drilling Tools

How Is ROE Calculated?

Return on equity 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 United Drilling Tools is:

4.2% = ₹103m ÷ ₹2.5b (Based on the trailing twelve months to March 2023).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each ₹1 of shareholders' capital it has, the company made ₹0.04 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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. 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 United Drilling Tools' Earnings Growth And 4.2% ROE

As you can see, United Drilling Tools' ROE looks pretty weak. Not just that, even compared to the industry average of 6.8%, the company's ROE is entirely unremarkable. Therefore, the disappointing ROE therefore provides a background to United Drilling Tools' very little net income growth of 4.6% over the past five years.

We then compared United Drilling Tools' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 18% in the same period, which is a bit concerning.

Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is United Drilling Tools fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is United Drilling Tools Using Its Retained Earnings Effectively?

United Drilling Tools has a low three-year median payout ratio of 11% (meaning, the company keeps the remaining 89% of profits) which means that the company is retaining more of its earnings. This should be reflected in its earnings growth number, but that's not the case. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

In addition, United Drilling Tools has been paying dividends over a period of six years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.

Conclusion

Overall, we have mixed feelings about United Drilling Tools. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. To know the 3 risks we have identified for United Drilling Tools visit our risks dashboard for free.

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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.