Cognizant Technology Solutions’ (NASDAQ:CTSH) stock is up by a considerable 6.6% over the past month. Since the market usually pay for a company’s long-term fundamentals, we decided to study the company’s key performance indicators to see if they could be influencing the market. Specifically, we decided to study Cognizant Technology Solutions’ 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 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 Cognizant Technology Solutions
How To Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders’ Equity
So, based on the above formula, the ROE for Cognizant Technology Solutions is:
16% = US$2.1b ÷ US$13b (Based on the trailing twelve months to September 2023).
The ‘return’ is the amount earned after tax over the last twelve months. That means that for every $1 worth of shareholders’ equity, the company generated $0.16 in profit.
Why Is ROE Important For 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
Cognizant Technology Solutions’ Earnings Growth And 16% ROE
To begin with, Cognizant Technology Solutions seems to have a respectable ROE. Further, the company’s ROE compares quite favorably to the industry average of 13%. This certainly adds some context to Cognizant Technology Solutions’ decent 5.1% net income growth seen over the past five years.
Next, on comparing with the industry net income growth, we found that Cognizant Technology Solutions’ reported growth was lower than the industry growth of 22% over the last few years, which is not something we like to see.
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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is CTSH fairly valued? This infographic on the company’s intrinsic value has everything you need to know.
Is Cognizant Technology Solutions Making Efficient Use Of Its Profits?
Cognizant Technology Solutions has a healthy combination of a moderate three-year median payout ratio of 26% (or a retention ratio of 74%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.
Moreover, Cognizant Technology Solutions is determined to keep sharing its profits with shareholders which we infer from its long history of seven years of paying a dividend. Upon studying the latest analysts’ consensus data, we found that the company is expected to keep paying out approximately 25% of its profits over the next three years. As a result, Cognizant Technology Solutions’ ROE is not expected to change by much either, which we inferred from the analyst estimate of 16% for future ROE.
Overall, we are quite pleased with Cognizant Technology Solutions’ performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. As a result, the decent growth in its earnings is not surprising. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. To know more about the company’s future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.