It is hard to get excited after looking at Texas Instruments' (NASDAQ:TXN) recent performance, when its stock has declined 1.7% over the past week. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. In this article, we decided to focus on Texas Instruments' ROE.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. 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 Texas Instruments is:
60% = US$8.7b ÷ US$15b (Based on the trailing twelve months to December 2022).
The 'return' is the yearly profit. That means that for every $1 worth of shareholders' equity, the company generated $0.60 in profit.
What Is The Relationship Between ROE And Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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 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.
Texas Instruments' Earnings Growth And 60% ROE
First thing first, we like that Texas Instruments has an impressive ROE. Secondly, even when compared to the industry average of 19% the company's ROE is quite impressive. This probably laid the groundwork for Texas Instruments' moderate 16% net income growth seen over the past five years.
We then compared Texas Instruments' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 27% in the same period, which is a bit concerning.
Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for TXN? You can find out in our latest intrinsic value infographic research report.
Is Texas Instruments Making Efficient Use Of Its Profits?
While Texas Instruments has a three-year median payout ratio of 54% (which means it retains 46% of profits), the company has still seen a fair bit of earnings growth in the past, meaning that its high payout ratio hasn't hampered its ability to grow.
Additionally, Texas Instruments 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. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 66% over the next three years. Accordingly, the expected increase in the payout ratio explains the expected decline in the company's ROE to 45%, over the same period.
Overall, we feel that Texas Instruments certainly does have some positive factors to consider. The company has grown its earnings moderately as previously discussed. Still, the high ROE could have been even more beneficial to investors had the company been reinvesting more of its profits. As highlighted earlier, the current reinvestment rate appears to be quite low. 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. 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.
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