Is Palo Alto Networks, Inc.'s (NASDAQ:PANW) Stock's Recent Performance Being Led By Its Attractive Financial Prospects?

Most readers would already be aware that Palo Alto Networks' (NASDAQ:PANW) stock increased significantly by 11% over the past three months. 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 Palo Alto Networks' ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Palo Alto Networks

How Is ROE Calculated?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Palo Alto Networks is:

50% = US$2.6b ÷ US$5.2b (Based on the trailing twelve months to July 2024).

The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.50 in profit.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.

Palo Alto Networks' Earnings Growth And 50% ROE

First thing first, we like that Palo Alto Networks has an impressive ROE. Additionally, the company's ROE is higher compared to the industry average of 14% which is quite remarkable. So, the substantial 72% net income growth seen by Palo Alto Networks over the past five years isn't overly surprising.

As a next step, we compared Palo Alto Networks' net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 20%.

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. Doing so will help them establish if the stock's future looks promising or ominous. Is PANW fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Palo Alto Networks Using Its Retained Earnings Effectively?

Given that Palo Alto Networks 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 Palo Alto Networks' performance has been quite good. 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. With that said, on studying the latest analyst forecasts, we found that while the company has seen growth in its past earnings, analysts expect its future earnings to shrink. 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.