Is Cognizant Technology Solutions Corporation's (NASDAQ:CTSH) Stock's Recent Performance A Reflection Of Its Financial Health?

Cognizant Technology Solutions' (NASDAQ:CTSH) stock up by 8.8% over the past three months. Given its impressive performance, we decided to study the company's key financial indicators as a company's long-term fundamentals usually dictate market outcomes. Particularly, we will be paying attention to Cognizant Technology Solutions' ROE today.

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.

See our latest analysis for Cognizant Technology Solutions

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 Cognizant Technology Solutions is:

16% = US$2.3b ÷ US$14b (Based on the trailing twelve months to September 2024).

The 'return' is the profit over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.16 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

Cognizant Technology Solutions' Earnings Growth And 16% ROE

To start with, Cognizant Technology Solutions' ROE looks acceptable. Even when compared to the industry average of 14% the company's ROE looks quite decent. This certainly adds some context to Cognizant Technology Solutions' moderate 6.4% net income growth seen over the past five years.

As a next step, we compared Cognizant Technology Solutions' 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 5.9% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Cognizant Technology Solutions is trading on a high P/E or a low P/E, relative to its industry.

Is Cognizant Technology Solutions Efficiently Re-investing Its Profits?

With a three-year median payout ratio of 26% (implying that the company retains 74% of its profits), it seems that Cognizant Technology Solutions is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Besides, Cognizant Technology Solutions has been paying dividends over a period of eight years. This shows that the company is committed to sharing profits with its shareholders. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 26%. As a result, Cognizant Technology Solutions' ROE is not expected to change by much either, which we inferred from the analyst estimate of 15% for future ROE.

Conclusion

In total, we are pretty happy with Cognizant Technology Solutions' performance. 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. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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.