With its stock down 24% over the past three months, it is easy to disregard PayPal Holdings (NASDAQ:PYPL). However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Particularly, we will be paying attention to PayPal Holdings’ 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 simpler terms, it measures the profitability of a company in relation to shareholder’s equity.
See our latest analysis for PayPal Holdings
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 PayPal Holdings is:
11% = US$2.3b ÷ US$20b (Based on the trailing twelve months to September 2022).
The ‘return’ refers to a company’s earnings over the last year. That means that for every $1 worth of shareholders’ equity, the company generated $0.11 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. Depending on how much of these profits the company reinvests or “retains”, and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.
A Side By Side comparison of PayPal Holdings’ Earnings Growth And 11% ROE
To start with, PayPal Holdings’ ROE looks acceptable. Be that as it may, the company’s ROE is still quite lower than the industry average of 15%. PayPal Holdings was still able to see a decent net income growth of 16% over the past five years. So, there might be other aspects that are positively influencing earnings growth. For instance, the company has a low payout ratio or is being managed efficiently. Bear in mind, the company does have a respectable level of ROE. It is just that the industry ROE is higher. So this also does lend some color to the fairly high earnings growth seen by the company.
As a next step, we compared PayPal Holdings’ 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 15% 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. This then helps them determine if the stock is placed for a bright or bleak future. Is PYPL fairly valued? This infographic on the company’s intrinsic value has everything you need to know.
Is PayPal Holdings Efficiently Re-investing Its Profits?
Given that PayPal Holdings doesn’t pay any dividend to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.
Summary
In total, we are pretty happy with PayPal Holdings’ performance. Particularly, we like that the company is reinvesting heavily into its business at a moderate rate of return. Unsurprisingly, this has led to an impressive earnings growth. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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.
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