Pembina Pipeline (TSE:PPL) has had a great run on the share market with its stock up by a significant 11% over the last three months. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. Specifically, we decided to study Pembina Pipeline's ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

Check out our latest analysis for Pembina Pipeline

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 Pembina Pipeline is:

11% = CA$2.0b ÷ CA$17b (Based on the trailing twelve months to June 2024).

The 'return' is the yearly profit. So, this means that for every CA$1 of its shareholder's investments, the company generates a profit of CA$0.11.

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. 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.

A Side By Side comparison of Pembina Pipeline's Earnings Growth And 11% ROE

To start with, Pembina Pipeline's ROE looks acceptable. Even when compared to the industry average of 9.6% the company's ROE looks quite decent. Consequently, this likely laid the ground for the decent growth of 19% seen over the past five years by Pembina Pipeline.

We then compared Pembina Pipeline's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 39% in the same 5-year period, which is a bit concerning.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for PPL? You can find out in our latest intrinsic value infographic research report.

Is Pembina Pipeline Making Efficient Use Of Its Profits?

Pembina Pipeline has a significant three-year median payout ratio of 82%, meaning that it is left with only 18% to reinvest into its business. This implies that the company has been able to achieve decent earnings growth despite returning most of its profits to shareholders.

Besides, Pembina Pipeline has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 78%. Accordingly, forecasts suggest that Pembina Pipeline's future ROE will be 12% which is again, similar to the current ROE.

Conclusion

Overall, we feel that Pembina Pipeline certainly does have some positive factors to consider. Its earnings have grown respectably as we saw earlier, which was likely due to the company reinvesting its earnings at a pretty high rate of return. However, given the high ROE, we do think that the company is reinvesting a small portion of its profits. This could likely be preventing the company from growing to its full extent. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. 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.