Cactus, Inc.'s (NYSE:WHD) Stock Has Been Sliding But Fundamentals Look Strong: Is The Market Wrong?

Cactus (NYSE:WHD) has had a rough month with its share price down 5.5%. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Particularly, we will be paying attention to Cactus' ROE today.

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. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Cactus

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 Cactus is:

21% = US$243m ÷ US$1.2b (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 $0.21 in profit.

What Has ROE Got To Do With 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.

Cactus' Earnings Growth And 21% ROE

To start with, Cactus' ROE looks acceptable. On comparing with the average industry ROE of 13% the company's ROE looks pretty remarkable. This certainly adds some context to Cactus' exceptional 25% net income growth seen over the past five years. However, there could also be other causes behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.

We then compared Cactus' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 48% in the same 5-year period, which is a bit concerning.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. Is WHD fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Cactus Efficiently Re-investing Its Profits?

Cactus' ' three-year median payout ratio is on the lower side at 24% implying that it is retaining a higher percentage (76%) of its profits. So it looks like Cactus is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Moreover, Cactus is determined to keep sharing its profits with shareholders which we infer from its long history of five years of paying a dividend.

Conclusion

Overall, we are quite pleased with Cactus' performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a respectable growth in its earnings. On studying current analyst estimates, we found that analysts expect the company to continue its recent growth streak. 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.