How Golar LNG Partners LP (NASDAQ:GMLP) Delivered A Better ROE Than Its Industry

Golar LNG Partners LP (NASDAQ:GMLP) outperformed the oil and gas storage and transportation industry on the basis of its ROE – producing a higher 26.53% relative to the peer average of 10.60% over the past 12 months. Though, the impressiveness of GMLP’s ROE is contingent on whether this industry-beating level can be sustained. This can be measured by looking at the company’s financial leverage. With more debt, GMLP can invest even more and earn more money, thus pushing up its returns. However, ROE only measures returns against equity, not debt. This can be distorted, so let’s take a look at it further. View our latest analysis for Golar LNG Partners

What you must know about ROE

Return on Equity (ROE) weighs Golar LNG Partners’s profit against the level of its shareholders’ equity. It essentially shows how much the company can generate in earnings given the amount of equity it has raised. Investors seeking to maximise their return in the Oil and Gas Storage and Transportation industry may want to choose the highest returning stock. However, this can be misleading as each firm has different costs of equity and debt levels i.e. the more debt Golar LNG Partners has, the higher ROE is pumped up in the short term, at the expense of long term interest payment burden.

Returns are usually compared to costs to measure the efficiency of capital. Golar LNG Partners’s cost of equity is 12.37%. Given a positive discrepancy of 14.16% between return and cost, this indicates that Golar LNG Partners pays less for its capital than what it generates in return, which is a sign of capital efficiency. ROE can be broken down into three different ratios: net profit margin, asset turnover, and financial leverage. This is called the Dupont Formula:

Essentially, profit margin shows how much money the company makes after paying for all its expenses. The other component, asset turnover, illustrates how much revenue Golar LNG Partners can make from its asset base. Finally, financial leverage will be our main focus today. It shows how much of assets are funded by equity and can show how sustainable the company’s capital structure is. We can determine if Golar LNG Partners’s ROE is inflated by borrowing high levels of debt. Generally, a balanced capital structure means its returns will be sustainable over the long run. We can examine this by looking at Golar LNG Partners’s debt-to-equity ratio. The most recent ratio is 220.18%, which is relatively high, indicating Golar LNG Partners’s above-average ROE is generated by its high leverage and its ability to grow profit hinges on a sizeable debt burden.

Next Steps:

While ROE is a relatively simple calculation, it can be broken down into different ratios, each telling a different story about the strengths and weaknesses of a company. Golar LNG Partners exhibits a strong ROE against its peers, as well as sufficient returns to cover its cost of equity. Its high debt level means its strong ROE may be driven by debt funding which raises concerns over the sustainability of Golar LNG Partners’s returns. Although ROE can be a useful metric, it is only a small part of diligent research.

For Golar LNG Partners, I've compiled three important aspects you should further examine:

• 1. Financial Health: Does it have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
• 2. Valuation: What is Golar LNG Partners worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether Golar LNG Partners is currently mispriced by the market.
• 3. Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Golar LNG Partners? Explore our interactive list of stocks with large growth potential to get an idea of what else is out there you may be missing!