Source Rock Royalties' (CVE:SRR) stock is up by 3.6% over the past three months. However, we decided to study the company's mixed-bag of fundamentals to assess what this could mean for future share prices, as stock prices tend to be aligned with a company's long-term financial performance. In this article, we decided to focus on Source Rock Royalties' ROE.

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.

See our latest analysis for Source Rock Royalties

How Is ROE Calculated?

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 Source Rock Royalties is:

5.8% = CA$1.6m ÷ CA$27m (Based on the trailing twelve months to December 2023).

The 'return' is the yearly profit. One way to conceptualize this is that for each CA$1 of shareholders' capital it has, the company made CA$0.06 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.

Source Rock Royalties' Earnings Growth And 5.8% ROE

On the face of it, Source Rock Royalties' ROE is not much to talk about. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 9.7%. In spite of this, Source Rock Royalties was able to grow its net income considerably, at a rate of 53% in the last five years. We reckon that there could be other factors at play here. Such as - high earnings retention or an efficient management in place.

We then compared Source Rock Royalties' 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 39% 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. Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for SRR? You can find out in our latest intrinsic value infographic research report