Are Strong Financial Prospects The Force That Is Driving The Momentum In Odfjell Drilling Ltd.'s OB:ODL) Stock?

Most readers would already be aware that Odfjell Drilling's (OB:ODL) stock increased significantly by 17% over the past three months. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. Particularly, we will be paying attention to Odfjell Drilling's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. 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 Odfjell Drilling

How To 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 Odfjell Drilling is:

17% = US$234m ÷ US$1.4b (Based on the trailing twelve months to March 2024).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each NOK1 of shareholders' capital it has, the company made NOK0.17 in profit.

What Is The Relationship Between ROE And 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.

Odfjell Drilling's Earnings Growth And 17% ROE

To begin with, Odfjell Drilling seems to have a respectable ROE. On comparing with the average industry ROE of 8.8% the company's ROE looks pretty remarkable. This probably laid the ground for Odfjell Drilling's significant 31% net income growth seen over the past five years. We believe that there might also be other aspects that are positively influencing the company's earnings growth. For instance, the company has a low payout ratio or is being managed efficiently.

As a next step, we compared Odfjell Drilling's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 29% 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). This then helps them determine if the stock is placed for a bright or bleak future. Is Odfjell Drilling fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Odfjell Drilling Using Its Retained Earnings Effectively?

Odfjell Drilling's three-year median payout ratio to shareholders is 22%, which is quite low. This implies that the company is retaining 78% of its profits. So it seems like the management is reinvesting profits heavily to grow its business and this reflects in its earnings growth number.

Besides, Odfjell Drilling has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 52% over the next three years. Consequently, the higher expected payout ratio explains the decline in the company's expected ROE (to 12%) over the same period.

Conclusion

Overall, we are quite pleased with Odfjell Drilling's performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink in the future. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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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.

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