Costco Wholesale's (NASDAQ:COST) stock up by 9.6% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Specifically, we decided to study Costco Wholesale's ROE in this article.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.
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 Costco Wholesale is:
28% = US$5.1b ÷ US$18b (Based on the trailing twelve months to August 2021).
The 'return' is the yearly profit. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.28 in profit.
What Has ROE Got To Do With Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.
Costco Wholesale's Earnings Growth And 28% ROE
Firstly, we acknowledge that Costco Wholesale has a significantly high ROE. Second, a comparison with the average ROE reported by the industry of 11% also doesn't go unnoticed by us. This likely paved the way for the modest 14% net income growth seen by Costco Wholesale over the past five years. growth
Next, on comparing with the industry net income growth, we found that Costco Wholesale's growth is quite high when compared to the industry average growth of 7.9% in the same period, which is great 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. This then helps them determine if the stock is placed for a bright or bleak future. Is COST fairly valued? This infographic on the company's intrinsic value has everything you need to know.
Is Costco Wholesale Efficiently Re-investing Its Profits?
With a three-year median payout ratio of 29% (implying that the company retains 71% of its profits), it seems that Costco Wholesale is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.
Besides, Costco Wholesale has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 24%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 23%.
Overall, we are quite pleased with Costco Wholesale'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 sizeable growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.
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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