Imperial Oil (TSE:IMO) has had a great run on the share market with its stock up by a significant 26% over the last 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 Imperial Oil's ROE in this article.

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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Imperial Oil

How To Calculate Return On Equity?

Return on equity 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 Imperial Oil is:

22% = CA$4.9b ÷ CA$22b (Based on the trailing twelve months to December 2023).

The 'return' is the profit over the last twelve months. That means that for every CA$1 worth of shareholders' equity, the company generated CA$0.22 in profit.

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. 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.

A Side By Side comparison of Imperial Oil's Earnings Growth And 22% ROE

To begin with, Imperial Oil has a pretty high ROE which is interesting. Secondly, even when compared to the industry average of 11% the company's ROE is quite impressive. Under the circumstances, Imperial Oil's considerable five year net income growth of 33% was to be expected.

Next, on comparing Imperial Oil's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 40% over the last few years.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for IMO? You can find out in our latest intrinsic value infographic research report.

Is Imperial Oil Making Efficient Use Of Its Profits?

Imperial Oil's ' three-year median payout ratio is on the lower side at 16% implying that it is retaining a higher percentage (84%) 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.

Besides, Imperial Oil has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Looking at the current analyst consensus data, we can see that the company's future payout ratio is expected to rise to 27% over the next three years. Therefore, the expected rise in the payout ratio explains why the company's ROE is expected to decline to 14% over the same period.

Conclusion

On the whole, we feel that Imperial Oil's 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. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink in the future. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.