MV Oil Trust (NYSE:MVO) Stock Is Going Strong But Fundamentals Look Uncertain: What Lies Ahead ?

MV Oil Trust (NYSE:MVO) has had a great run on the share market with its stock up by a significant 54% over the last three months. However, we wonder if the company's inconsistent financials would have any adverse impact on the current share price momentum. In this article, we decided to focus on MV Oil Trust's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for MV Oil Trust

How Do You 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 MV Oil Trust is:

62% = US$7.0m ÷ US$11m (Based on the trailing twelve months to September 2020).

The 'return' is the yearly profit. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.62 in profit.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

MV Oil Trust's Earnings Growth And 62% ROE

To begin with, MV Oil Trust has a pretty high ROE which is interesting. Second, a comparison with the average ROE reported by the industry of 12% also doesn't go unnoticed by us. Yet, MV Oil Trust has posted measly growth of 3.0% over the past five years. This is generally not the case as when a company has a high rate of return it should usually also have a high earnings growth rate. Such a scenario is likely to take place when a company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.

We then compared MV Oil Trust's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 4.4% in the same period, which is a bit concerning.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. 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 MVO? You can find out in our latest intrinsic value infographic research report

Is MV Oil Trust Efficiently Re-investing Its Profits?

With a high three-year median payout ratio of 95% (or a retention ratio of 4.6%), most of MV Oil Trust's profits are being paid to shareholders. This definitely contributes to the low earnings growth seen by the company.

Additionally, MV Oil Trust has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.

Conclusion

Overall, we have mixed feelings about MV Oil Trust. While the company does have a high rate of return, its low earnings retention is probably what's hampering its 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 MV Oil Trust visit our risks dashboard for free.

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This article by Simply Wall St is general in nature. 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.
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