Are Strong Financial Prospects The Force That Is Driving The Momentum In Cabot Corporation's NYSE:CBT) Stock?

Cabot (NYSE:CBT) has had a great run on the share market with its stock up by a significant 8.0% over the last month. 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 Cabot's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for Cabot

How Is ROE Calculated?

Return on equity 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 Cabot is:

33% = US$494m ÷ US$1.5b (Based on the trailing twelve months to March 2024).

The 'return' is the profit over the last twelve months. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.33.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

Cabot's Earnings Growth And 33% ROE

First thing first, we like that Cabot has an impressive ROE. Secondly, even when compared to the industry average of 10% the company's ROE is quite impressive. So, the substantial 31% net income growth seen by Cabot over the past five years isn't overly surprising.

We then compared Cabot'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 14% in the same 5-year period.

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. If you're wondering about Cabot's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Cabot Making Efficient Use Of Its Profits?

Cabot has a three-year median payout ratio of 26% (where it is retaining 74% of its income) which is not too low or not too high. So it seems that Cabot is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

Besides, Cabot has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 23% of its profits over the next three years. Accordingly, forecasts suggest that Cabot's future ROE will be 27% which is again, similar to the current ROE.

Summary

Overall, we are quite pleased with Cabot's performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. To know the 1 risk we have identified for Cabot visit our risks dashboard for free.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com