Most readers would already be aware that ConocoPhillips' (NYSE:COP) stock increased significantly by 19% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Specifically, we decided to study ConocoPhillips' ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

How Is ROE Calculated?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for ConocoPhillips is:

22% = US$11b ÷ US$49b (Based on the trailing twelve months to December 2023).

The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every $1 worth of equity, the company was able to earn $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. 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 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.

ConocoPhillips' Earnings Growth And 22% ROE

To start with, ConocoPhillips' ROE looks acceptable. Even when compared to the industry average of 21% the company's ROE looks quite decent. This certainly adds some context to ConocoPhillips' exceptional 27% net income growth seen over the past five years. We believe that there might also be other aspects that are positively influencing the company's earnings growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

As a next step, we compared ConocoPhillips' net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 37% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. Is ConocoPhillips fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is ConocoPhillips Using Its Retained Earnings Effectively?

The three-year median payout ratio for ConocoPhillips is 40%, which is moderately low. The company is retaining the remaining 60%. By the looks of it, the dividend is well covered and ConocoPhillips is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.

Besides, ConocoPhillips has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 37% of its profits over the next three years. Still, forecasts suggest that ConocoPhillips' future ROE will drop to 17% even though the the company's payout ratio is not expected to change by much.

Conclusion

Overall, we are quite pleased with ConocoPhillips' performance. 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 respectable growth in its earnings. Having said that, on studying current analyst estimates, we were concerned to see that while the company has grown its earnings in the past, analysts expect its earnings to shrink in the future. 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.