Roche Holding AG's (VTX:ROG) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?

It is hard to get excited after looking at Roche Holding's (VTX:ROG) recent performance, when its stock has declined 6.2% over the past month. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Specifically, we decided to study Roche Holding's ROE in this article.

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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Roche Holding

How To Calculate Return On Equity?

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 Roche Holding is:

36% = CHF15b ÷ CHF41b (Based on the trailing twelve months to June 2021).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each CHF1 of shareholders' capital it has, the company made CHF0.36 in profit.

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. 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.

Roche Holding's Earnings Growth And 36% ROE

Firstly, we acknowledge that Roche Holding has a significantly high ROE. Additionally, the company's ROE is higher compared to the industry average of 11% which is quite remarkable. This likely paved the way for the modest 11% net income growth seen by Roche Holding over the past five years. growth

We then compared Roche Holding's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 2.4% in the same period.

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). This then helps them determine if the stock is placed for a bright or bleak future. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Roche Holding is trading on a high P/E or a low P/E, relative to its industry.

Is Roche Holding Making Efficient Use Of Its Profits?

While Roche Holding has a three-year median payout ratio of 59% (which means it retains 41% of profits), the company has still seen a fair bit of earnings growth in the past, meaning that its high payout ratio hasn't hampered its ability to grow.

Moreover, Roche Holding 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. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 44% over the next three years. However, the company's ROE is not expected to change by much despite the lower expected payout ratio.

Summary

On the whole, we feel that Roche Holding's performance has been quite good. In particular, its high ROE is quite noteworthy and also the probable explanation behind its considerable earnings growth. Yet, the company is retaining a small portion of its profits. Which means that the company has been able to grow its earnings in spite of it, so that's not too bad. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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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