Do Fundamentals Have Any Role To Play In Driving Salesforce, Inc.'s (NYSE:CRM) Stock Up Recently?

Most readers would already know that Salesforce's (NYSE:CRM) stock increased by 9.6% over the past three months. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Specifically, we decided to study Salesforce's ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Salesforce

How Do You Calculate Return On Equity?

The formula for ROE is:

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

So, based on the above formula, the ROE for Salesforce is:

9.8% = US$5.6b ÷ US$58b (Based on the trailing twelve months to July 2024).

The 'return' is the yearly profit. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.10 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.

Salesforce's Earnings Growth And 9.8% ROE

At first glance, Salesforce's ROE doesn't look very promising. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 14%. However, we we're pleasantly surprised to see that Salesforce grew its net income at a significant rate of 22% in the last five years. So, there might be other aspects that are positively influencing the company's earnings growth. For instance, the company has a low payout ratio or is being managed efficiently.

As a next step, we compared Salesforce's 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 19% 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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for CRM? You can find out in our latest intrinsic value infographic research report.

Is Salesforce Using Its Retained Earnings Effectively?

Salesforce's three-year median payout ratio to shareholders is 7.1%, which is quite low. This implies that the company is retaining 93% of its profits. So it seems like the management is reinvesting profits heavily to grow its business and this reflects in its earnings growth number.

While Salesforce has been growing its earnings, it only recently started to pay dividends which likely means that the company decided to impress new and existing shareholders with a dividend. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 15% over the next three years. Regardless, the future ROE for Salesforce is speculated to rise to 16% despite the anticipated increase in the payout ratio. There could probably be other factors that could be driving the future growth in the ROE.

Conclusion

On the whole, we do feel that Salesforce has some positive attributes. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. 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.