Yahoo Finance Could The Market Be Wrong About Cognizant Technology Solutions Corporation (NASDAQ:CTSH) Given Its Attractive Financial Prospects?
It is hard to get excited after looking at Cognizant Technology Solutions' (NASDAQ:CTSH) recent performance, when its stock has declined 6.3% over the past three months. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Particularly, we will be paying attention to Cognizant Technology Solutions' ROE today.
ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
See our latest analysis for Cognizant Technology Solutions
How To Calculate Return On Equity?
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 Cognizant Technology Solutions is:
18% = US$2.3b ÷ US$13b (Based on the trailing twelve months to March 2023).
The 'return' is the income the business earned over the last year. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.18 in profit.
What Has ROE Got To Do With Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.
Cognizant Technology Solutions' Earnings Growth And 18% ROE
To begin with, Cognizant Technology Solutions seems to have a respectable ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 15%. This certainly adds some context to Cognizant Technology Solutions' moderate 6.5% 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 21% in the same period, which is not something we like to see.
Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. What is CTSH worth today? The intrinsic value infographic in our free research report helps visualize whether CTSH is currently mispriced by the market.
Is Cognizant Technology Solutions Using Its Retained Earnings Effectively?
Cognizant Technology Solutions has a three-year median payout ratio of 26%, which implies that it retains the remaining 74% of its profits. This suggests that its dividend is well covered, and given the decent growth seen by the company, it looks like management is reinvesting its earnings efficiently.
Additionally, Cognizant Technology Solutions has paid dividends over a period of six years which means that the company is pretty serious about sharing its profits with shareholders. 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. Accordingly, forecasts suggest that Cognizant Technology Solutions' future ROE will be 17% which is again, similar to the current ROE.
Conclusion
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. 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.
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