With its stock down 7.1% over the past three months, it is easy to disregard Akamai Technologies (NASDAQ:AKAM). But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. In this article, we decided to focus on Akamai Technologies' ROE.
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.
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 Akamai Technologies is:
14% = US$563m ÷ US$4.1b (Based on the trailing twelve months to September 2020).
The 'return' is the yearly profit. That means that for every $1 worth of shareholders' equity, the company generated $0.14 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. 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 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.
Akamai Technologies' Earnings Growth And 14% ROE
To start with, Akamai Technologies' ROE looks acceptable. Further, the company's ROE is similar to the industry average of 14%. Consequently, this likely laid the ground for the decent growth of 12% seen over the past five years by Akamai Technologies.
We then performed a comparison between Akamai Technologies' net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 12% in the same period.
Earnings growth is an important metric to consider when valuing a stock. 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. Is AKAM fairly valued? This infographic on the company's intrinsic value has everything you need to know.
Is Akamai Technologies Using Its Retained Earnings Effectively?
In total, we are pretty happy with Akamai Technologies' 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. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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. 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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