Declining Stock and Solid Fundamentals: Is The Market Wrong About Vertex Pharmaceuticals Incorporated (NASDAQ:VRTX)?

With its stock down 7.5% over the past three months, it is easy to disregard Vertex Pharmaceuticals (NASDAQ:VRTX). 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 Vertex Pharmaceuticals' 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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Vertex Pharmaceuticals

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 Vertex Pharmaceuticals is:

21% = US$3.6b ÷ US$18b (Based on the trailing twelve months to December 2023).

The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.21 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. 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 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.

A Side By Side comparison of Vertex Pharmaceuticals' Earnings Growth And 21% ROE

To begin with, Vertex Pharmaceuticals seems to have a respectable ROE. On comparing with the average industry ROE of 16% the company's ROE looks pretty remarkable. This certainly adds some context to Vertex Pharmaceuticals' decent 14% net income growth seen over the past five years.

As a next step, we compared Vertex Pharmaceuticals' net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 13% in the same period.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. What is VRTX worth today? The intrinsic value infographic in our free research report helps visualize whether VRTX is currently mispriced by the market.

Is Vertex Pharmaceuticals Using Its Retained Earnings Effectively?

Given that Vertex Pharmaceuticals doesn't pay any regular dividends to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.

Summary

On the whole, we feel that Vertex Pharmaceuticals' performance has been quite good. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. The latest industry analyst forecasts show that the company is expected to maintain its current growth rate. 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.

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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.