Are Robust Financials Driving The Recent Rally In Precision Drilling Corporation's (TSE:PD) Stock?
Precision Drilling's (TSE:PD) stock is up by a considerable 15% over the past month. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. In this article, we decided to focus on Precision Drilling's ROE.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
Check out our latest analysis for Precision Drilling
How To Calculate Return On Equity?
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 Precision Drilling is:
11% = CA$146m ÷ CA$1.4b (Based on the trailing twelve months to September 2023).
The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each CA$1 of shareholders' capital it has, the company made CA$0.11 in profit.
Why Is ROE Important For Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
Precision Drilling's Earnings Growth And 11% ROE
At first glance, Precision Drilling seems to have a decent ROE. Even so, when compared with the average industry ROE of 18%, we aren't very excited. However, we are pleased to see the impressive 37% net income growth reported by Precision Drilling over the past five years. We reckon that there could be other factors at play here. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio. However, not to forget, the company does have a decent ROE to begin with, just that it is lower than the industry average. So this certainly also provides some context to the high earnings growth seen by the company.
As a next step, we compared Precision Drilling's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 32% in the same period.
Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. 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 Precision Drilling is trading on a high P/E or a low P/E, relative to its industry.
Is Precision Drilling Making Efficient Use Of Its Profits?
Given that Precision Drilling doesn't pay any dividend to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.
Conclusion
In total, we are pretty happy with Precision Drilling's performance. Particularly, we like that the company is reinvesting heavily into its business at a moderate rate of return. Unsurprisingly, this has led to an impressive earnings growth. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. 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.
