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Most readers would already be aware that Gulf Marine Services' (LON:GMS) stock increased significantly by 49% over the past three months. Since the market usually pay for a company’s long-term fundamentals, we decided to study the company’s key performance indicators to see if they could be influencing the market. Specifically, we decided to study Gulf Marine Services' ROE in this article.
Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
Check out our latest analysis for Gulf Marine Services
How To Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Gulf Marine Services is:
13% = US$42m ÷ US$330m (Based on the trailing twelve months to December 2023).
The 'return' is the amount earned after tax over the last twelve months. That means that for every £1 worth of shareholders' equity, the company generated £0.13 in profit.
Why Is ROE Important For 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 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.
Gulf Marine Services' Earnings Growth And 13% ROE
To start with, Gulf Marine Services' ROE looks acceptable. Even when compared to the industry average of 11% the company's ROE looks quite decent. This probably goes some way in explaining Gulf Marine Services' significant 43% net income growth over the past five years amongst other factors. However, there could also be other drivers behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.
As a next step, we compared Gulf Marine Services' 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 17%.
Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. 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 Gulf Marine Services is trading on a high P/E or a low P/E, relative to its industry.