Quest Diagnostics’ (NYSE:DGX) stock is up by 2.6% 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 Quest Diagnostics’ 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. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company’s shareholders.
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 Quest Diagnostics is:
27% = US$1.9b ÷ US$6.9b (Based on the trailing twelve months to March 2021).
The ‘return’ is the income the business earned over the last year. So, this means that for every $1 of its shareholder’s investments, the company generates a profit of $0.27.
What Is The Relationship Between ROE And Earnings Growth?
So far, we’ve learned that ROE is a measure of a company’s profitability. 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 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.
Quest Diagnostics’ Earnings Growth And 27% ROE
First thing first, we like that Quest Diagnostics has an impressive ROE. Second, a comparison with the average ROE reported by the industry of 16% also doesn’t go unnoticed by us. This likely paved the way for the modest 13% net income growth seen by Quest Diagnostics over the past five years. growth
We then performed a comparison between Quest Diagnostics’ net income growth with the industry, which revealed that the company’s growth is similar to the average industry growth of 13% in the same period.
Earnings growth is a huge factor in stock valuation. 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. What is DGX worth today? The intrinsic value infographic in our free research report helps visualize whether DGX is currently mispriced by the market.
Is Quest Diagnostics Efficiently Re-investing Its Profits?
With a three-year median payout ratio of 34% (implying that the company retains 66% of its profits), it seems that Quest Diagnostics is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that’s well covered.
Additionally, Quest Diagnostics has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Upon studying the latest analysts’ consensus data, we found that the company is expected to keep paying out approximately 29% of its profits over the next three years. However, Quest Diagnostics’ future ROE is expected to decline to 14% despite there being not much change anticipated in the company’s payout ratio.
On the whole, we feel that Quest Diagnostics’ performance has been quite good. 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. 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. 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.
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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