It is hard to get excited after looking at NOV's (NYSE:NOV) recent performance, when its stock has declined 11% over the past three months. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Particularly, we will be paying attention to NOV's 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 NOV

How Is ROE Calculated?

ROE 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 NOV is:

16% = US$1.1b ÷ US$6.5b (Based on the trailing twelve months to September 2024).

The 'return' is the profit over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.16 in profit.

What Has ROE Got To Do With 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. 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.

NOV's Earnings Growth And 16% ROE

At first glance, NOV seems to have a decent ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 14%. This probably goes some way in explaining NOV's significant 83% net income growth over the past five years amongst other factors. We reckon that there could also be other factors at play here. For instance, the company has a low payout ratio or is being managed efficiently.

We then compared NOV's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 53% in the same 5-year period.

Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. What is NOV worth today? The intrinsic value infographic in our free research report helps visualize whether NOV is currently mispriced by the market.

Is NOV Efficiently Re-investing Its Profits?

NOV's ' three-year median payout ratio is on the lower side at 8.4% implying that it is retaining a higher percentage (92%) of its profits. So it seems like the management is reinvesting profits heavily to grow its business and this reflects in its earnings growth number.

Moreover, NOV is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 12% over the next three years. Consequently, the higher expected payout ratio explains the decline in the company's expected ROE (to 9.1%) over the same period.

Summary

Overall, we are quite pleased with NOV's performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. With that said, on studying the latest analyst forecasts, we found that while the company has seen growth in its past earnings, analysts expect its future earnings to shrink. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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.