Are Cerence Inc.'s (NASDAQ:CRNC) Mixed Financials Driving The Negative Sentiment?

Cerence (NASDAQ:CRNC) has had a rough three months with its share price down 57%. It is possible that the markets have ignored the company's differing financials and decided to lean-in to the negative sentiment. Fundamentals usually dictate market outcomes so it makes sense to study the company's financials. In this article, we decided to focus on Cerence's 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Cerence

How To Calculate Return On Equity?

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 Cerence is:

4.2% = US$44m ÷ US$1.0b (Based on the trailing twelve months to December 2021).

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 $0.04.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

Cerence's Earnings Growth And 4.2% ROE

At first glance, Cerence's ROE doesn't look very promising. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 11% either. Therefore, Cerence's flat earnings over the past five years can possibly be explained by the low ROE amongst other factors.

We then compared Cerence's net income growth with the industry and found that the average industry growth rate was 20% in the same period.

Earnings growth is an important metric to consider when valuing a stock. 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. Is Cerence fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Cerence Making Efficient Use Of Its Profits?

Cerence doesn't pay any dividend, which means that it is retaining all of its earnings. This makes us question why the company is retaining so much of its profits and still generating almost no growth? So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Summary

In total, we're a bit ambivalent about Cerence's performance. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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. 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.