Salesforce (NYSE:CRM) has had a rough three months, with its share price down 7.9%. But if you look closely, you’ll see that its key financial indicators are looking pretty decent, which could mean that the stock could potentially rise in the long term, as markets usually reward more robust long-term fundamentals. In particular, we’ve decided to examine Salesforce’s return on equity in this article.
ROE or return on equity is a useful tool for evaluating how effectively a company can generate returns on the investments it receives from its shareholders. Simply put, it is used to evaluate the profitability of a company relative to its equity.
Check out our latest analysis for Salesforce
How do you calculate return on equity?
The Formula for return on equity Is:
Return on equity = Net profit (from continuing operations) ÷ Equity
Based on the above formula, the ROE for Salesforce is:
9.2% = $5.5 billion ÷ $60 billion (based on the trailing twelve months ending April 2024).
The “return” is the amount earned after taxes over the last twelve months. This means that for every dollar invested by its shareholders, the company earned $0.09 in profit.
What does return on equity (ROE) have to do with earnings growth?
So far, we’ve learned that return on equity (ROE) measures how efficiently a company generates its profits. Based on how much of its profits the company reinvests or “retains,” we can then assess a company’s future ability to generate profits. Assuming everything else remains unchanged, companies that have both a higher return on equity and higher retention of earnings are usually those that have a higher growth rate compared to companies that don’t have the same characteristics.
Salesforce earnings growth and return on equity of 9.2%
At first glance, Salesforce’s return on equity isn’t particularly impressive. And when you compare it to the industry’s average return on equity of 14%, we’re even less enthusiastic. However, Salesforce’s modest net income growth of 16% over the past five years is definitely positive. So the company’s earnings growth could likely be due to other variables, such as high retained earnings or efficient management.
We then compared Salesforce’s net income growth to that of the industry and found that the company’s growth was in line with the average industry growth of 19% over the same 5-year period.
The basis for valuing a company depends heavily on its earnings growth. Next, investors need to determine whether the expected earnings growth, or lack thereof, is already factored into the stock price. This then helps them determine whether the stock is positioned for a good or bad future. What is CRM worth today? The intrinsic value infographic in our free research report helps visualize whether CRM is currently mispriced by the market.
Does Salesforce use its profits efficiently?
Salesforce has a low three-year median payout ratio of 7.1%, meaning the company retains the remaining 93% of its earnings. This suggests that management is reinvesting most of the profits to grow the business.
Our latest analyst data shows that the company’s future payout ratio is expected to increase to 11% over the next three years. However, Salesforce’s future return on equity is expected to increase to 16% despite the expected increase in the company’s payout ratio. We believe there could be other factors that could drive the company’s expected return on equity growth.
Summary
Overall, Salesforce seems to have some positive aspects. Despite the low ROE, the fact that the company reinvests a very high proportion of its profits into its business has undoubtedly contributed to its high earnings growth. The latest industry analyst forecasts show that the company is expected to maintain its current growth rate. Are these analyst expectations based on broader expectations for the industry or on the company’s fundamentals? Click here to go to our analyst forecasts page for the company.
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This Simply Wall St article is of a general nature. We comment solely on the basis of historical data and analyst forecasts, using an unbiased methodology. Our articles do not constitute financial advice. It is not a recommendation to buy or sell any stock and does not take into account your objectives or financial situation. Our goal is to provide you with long-term analysis based on fundamental data. Note that our analysis may not take into account the latest price-sensitive company announcements or qualitative materials. Simply Wall St does not hold any of the stocks mentioned.
