Yahoo Finance CVS Health Corporation's (NYSE:CVS) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?
With its stock down 18% over the past three months, it is easy to disregard CVS Health (NYSE:CVS). However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. Particularly, we will be paying attention to CVS Health's ROE today.
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 CVS Health
How Is ROE Calculated?
ROE 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 CVS Health is:
9.9% = US$7.4b ÷ US$74b (Based on the trailing twelve months to March 2024).
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 $0.10 in profit.
Why Is ROE Important For Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.
CVS Health's Earnings Growth And 9.9% ROE
When you first look at it, CVS Health's ROE doesn't look that attractive. However, its ROE is similar to the industry average of 11%, so we won't completely dismiss the company. On the other hand, CVS Health reported a moderate 5.6% net income growth over the past five years. Considering the moderately low ROE, it is quite possible that there might be some other aspects that are positively influencing the company's earnings growth. Such as - high earnings retention or an efficient management in place.
Next, on comparing CVS Health's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 5.6% over the last few years.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about CVS Health's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is CVS Health Making Efficient Use Of Its Profits?
CVS Health has a healthy combination of a moderate three-year median payout ratio of 36% (or a retention ratio of 64%) 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, CVS Health 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. 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 33%. Accordingly, forecasts suggest that CVS Health's future ROE will be 12% which is again, similar to the current ROE.
Conclusion
In total, it does look like CVS Health has some positive aspects to its business. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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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