Will Weakness in Paramount Resources Ltd.'s (TSE:POU) Stock Prove Temporary Given Strong Fundamentals?
It is hard to get excited after looking at Paramount Resources' (TSE:POU) recent performance, when its stock has declined 9.9% over the past month. However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. Particularly, we will be paying attention to Paramount Resources' ROE today.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
Check out our latest analysis for Paramount Resources
How Is ROE Calculated?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Paramount Resources is:
22% = CA$753m ÷ CA$3.4b (Based on the trailing twelve months to June 2023).
The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each CA$1 of shareholders' capital it has, the company made CA$0.22 in profit.
What Is The Relationship Between ROE And Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.
A Side By Side comparison of Paramount Resources' Earnings Growth And 22% ROE
Firstly, we acknowledge that Paramount Resources has a significantly high ROE. Additionally, a comparison with the average industry ROE of 20% also portrays the company's ROE in a good light. Therefore, it might not be wrong to say that the impressive five year 66% net income growth seen by Paramount Resources was probably achieved as a result of the high ROE.
As a next step, we compared Paramount Resources' net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 41%.
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 Paramount Resources fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Paramount Resources Efficiently Re-investing Its Profits?
Paramount Resources' three-year median payout ratio to shareholders is 19%, which is quite low. This implies that the company is retaining 81% of its profits. This suggests that the management is reinvesting most of the profits to grow the business as evidenced by the growth seen by the company.
While Paramount Resources has been growing its earnings, it only recently started to pay dividends which likely means that the company decided to impress new and existing shareholders with a dividend.
Conclusion
On the whole, we feel that Paramount Resources' performance has been quite good. 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 sizeable growth in its earnings. 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. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. Our risks dashboard would have the 3 risks we have identified for Paramount Resources.
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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.
