Is 3D Oil Limited's (ASX:TDO) Latest Stock Performance Being Led By Its Strong Fundamentals?
3D Oil's (ASX:TDO) stock is up by 9.8% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to 3D Oil's ROE today.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
See our latest analysis for 3D Oil
How Is ROE Calculated?
The formula for return on equity is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for 3D Oil is:
34% = AU$3.4m ÷ AU$9.9m (Based on the trailing twelve months to June 2023).
The 'return' is the yearly profit. Another way to think of that is that for every A$1 worth of equity, the company was able to earn A$0.34 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.
3D Oil's Earnings Growth And 34% ROE
Firstly, we acknowledge that 3D Oil has a significantly high ROE. Additionally, the company's ROE is higher compared to the industry average of 24% which is quite remarkable. Under the circumstances, 3D Oil's considerable five year net income growth of 26% was to be expected.
We then compared 3D Oil's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 38% 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. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. 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 3D Oil is trading on a high P/E or a low P/E, relative to its industry.
Is 3D Oil Making Efficient Use Of Its Profits?
Given that 3D Oil doesn't pay any dividend to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.
Summary
Overall, we are quite pleased with 3D Oil's performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. As a result, the decent growth in its earnings is not surprising. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Not to forget, share price outcomes are also dependent on the potential risks a company may face. So it is important for investors to be aware of the risks involved in the business. You can see the 3 risks we have identified for 3D Oil by visiting our risks dashboard for free on our platform here.
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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.
