Declining Stock and Solid Fundamentals: Is The Market Wrong About Devon Energy Corporation (NYSE:DVN)?

Devon Energy (NYSE:DVN) has had a rough three months with its share price down 8.3%. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Specifically, we decided to study Devon Energy'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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for Devon Energy

How To Calculate Return On Equity?

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 Devon Energy is:

28% = US$3.5b ÷ US$13b (Based on the trailing twelve months to June 2024).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.28 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. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

Devon Energy's Earnings Growth And 28% ROE

To begin with, Devon Energy has a pretty high ROE which is interesting. Secondly, even when compared to the industry average of 16% the company's ROE is quite impressive. Under the circumstances, Devon Energy's considerable five year net income growth of 46% was to be expected.

Next, on comparing Devon Energy's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 41% over the last few years.

Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Devon Energy is trading on a high P/E or a low P/E, relative to its industry.

Is Devon Energy Using Its Retained Earnings Effectively?

Devon Energy's significant three-year median payout ratio of 50% (where it is retaining only 50% of its income) suggests that the company has been able to achieve a high growth in earnings despite returning most of its income to shareholders.

Besides, Devon Energy has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 26% over the next three years. Still forecasts suggest that Devon Energy's future ROE will drop to 19% even though the the company's payout ratio is expected to decrease. This suggests that there could be other factors could driving the anticipated decline in the company's ROE.

Summary

Overall, we are quite pleased with Devon Energy's performance. In particular, its high ROE is quite noteworthy and also the probable explanation behind its considerable earnings growth. Yet, the company is retaining a small portion of its profits. Which means that the company has been able to grow its earnings in spite of it, so that's not too bad. 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 latest analysts predictions for the company, check out this visualization of analyst forecasts 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.