Are Strong Financial Prospects The Force That Is Driving The Momentum In Galp Energia, SGPS, S.A.'s ELI:GALP) Stock?

Most readers would already be aware that Galp Energia SGPS' (ELI:GALP) stock increased significantly by 29% 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. In this article, we decided to focus on Galp Energia SGPS' ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Galp Energia SGPS

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 Galp Energia SGPS is:

26% = €1.5b ÷ €5.7b (Based on the trailing twelve months to March 2024).

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 €0.26.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.

Galp Energia SGPS' Earnings Growth And 26% ROE

First thing first, we like that Galp Energia SGPS has an impressive ROE. Secondly, even when compared to the industry average of 14% the company's ROE is quite impressive. As a result, Galp Energia SGPS' exceptional 44% net income growth seen over the past five years, doesn't come as a surprise.

We then compared Galp Energia SGPS' net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 29% in the same 5-year period.

Earnings growth is an important metric to consider when valuing a stock. 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. Has the market priced in the future outlook for GALP? You can find out in our latest intrinsic value infographic research report.

Is Galp Energia SGPS Making Efficient Use Of Its Profits?

Galp Energia SGPS has a three-year median payout ratio of 31% (where it is retaining 69% of its income) which is not too low or not too high. By the looks of it, the dividend is well covered and Galp Energia SGPS is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.

Moreover, Galp Energia SGPS is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 44% over the next three years. Therefore, the expected rise in the payout ratio explains why the company's ROE is expected to decline to 19% over the same period.

Summary

On the whole, we feel that Galp Energia SGPS' performance has been quite good. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink in the future. 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.

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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.