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Most readers would already know that Stryker's (NYSE:SYK) stock increased by 4.9% over the past week. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. In this article, we decided to focus on Stryker's ROE.
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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.
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 Stryker is:
15% = US$2.1b ÷ US$14b (Based on the trailing twelve months to June 2021).
The 'return' is the yearly profit. That means that for every $1 worth of shareholders' equity, the company generated $0.15 in profit.
What Is The Relationship Between ROE And 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 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.
Stryker's Earnings Growth And 15% ROE
To begin with, Stryker seems to have a respectable ROE. On comparing with the average industry ROE of 10% the company's ROE looks pretty remarkable. This certainly adds some context to Stryker's decent 6.0% net income growth seen over the past five years.
We then compared Stryker's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 14% in the same period, which is a bit concerning.
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. Doing so will help them establish if the stock's future looks promising or ominous. What is SYK worth today? The intrinsic value infographic in our free research report helps visualize whether SYK is currently mispriced by the market.
Is Stryker Making Efficient Use Of Its Profits?
Stryker has a healthy combination of a moderate three-year median payout ratio of 45% (or a retention ratio of 55%) 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, Stryker is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 26% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 24%, over the same period.
In total, we are pretty happy with Stryker's 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. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.
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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