Most readers would already know that Topaz Energy's (TSE:TPZ) stock increased by 5.4% over the past three months. However, the company's financials look a bit inconsistent and market outcomes are ultimately driven by long-term fundamentals, meaning that the stock could head in either direction. Specifically, we decided to study Topaz Energy's 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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Topaz Energy

How Do You 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 Topaz Energy is:

4.6% = CA$54m ÷ CA$1.2b (Based on the trailing twelve months to June 2024).

The 'return' is the income the business earned over the last year. So, this means that for every CA$1 of its shareholder's investments, the company generates a profit of CA$0.05.

What Is The Relationship Between ROE And 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 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.

Topaz Energy's Earnings Growth And 4.6% ROE

On the face of it, Topaz Energy's ROE is not much to talk about. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 9.6% either. In spite of this, Topaz Energy was able to grow its net income considerably, at a rate of 34% in the last five years. Therefore, there could be other reasons behind this growth. Such as - high earnings retention or an efficient management in place.

As a next step, we compared Topaz Energy's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 39% in the same period.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Topaz Energy's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Topaz Energy Using Its Retained Earnings Effectively?

Topaz Energy has very a high three-year median payout ratio of 305% suggesting that the company's shareholders are getting paid from more than just the company's earnings. Despite this, the company's earnings grew significantly as we saw above. With that said, it could be worth keeping an eye on the high payout ratio as that's a huge risk.

Moreover, Topaz Energy is determined to keep sharing its profits with shareholders which we infer from its long history of four years of paying a dividend. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 190% over the next three years.

Conclusion

In total, we're a bit ambivalent about Topaz Energy's performance. While the company has posted impressive earnings growth, its poor ROE and low earnings retention makes us doubtful if that growth could continue, if by any chance the business is faced with any sort of risk. Until now, we have only just grazed the surface of the company's past performance by looking at the company's fundamentals. To gain further insights into Topaz Energy's past profit growth, check out this visualization of past earnings, revenue and cash flows.

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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.