Yahoo Finance Is Weakness In Cadence Design Systems, Inc. (NASDAQ:CDNS) Stock A Sign That The Market Could be Wrong Given Its Strong Financial Prospects?
It is hard to get excited after looking at Cadence Design Systems' (NASDAQ:CDNS) recent performance, when its stock has declined 24% over the past three months. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Specifically, we decided to study Cadence Design Systems' ROE in this article.
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 Cadence Design Systems
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 Cadence Design Systems is:
29% = US$785m ÷ US$2.7b (Based on the trailing twelve months to October 2022).
The 'return' is the amount earned after tax over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.29 in profit.
What Has ROE Got To Do With Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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 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.
Cadence Design Systems' Earnings Growth And 29% ROE
To begin with, Cadence Design Systems has a pretty high ROE which is interesting. Additionally, the company's ROE is higher compared to the industry average of 13% which is quite remarkable. As a result, Cadence Design Systems' exceptional 22% net income growth seen over the past five years, doesn't come as a surprise.
Next, on comparing Cadence Design Systems' net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 25% in the same period.
Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is CDNS fairly valued? This infographic on the company's intrinsic value has everything you need to know.
Is Cadence Design Systems Efficiently Re-investing Its Profits?
Cadence Design Systems doesn't pay any dividend currently which essentially means that it has been reinvesting all of its profits into the business. This definitely contributes to the high earnings growth number that we discussed above.
Conclusion
In total, we are pretty happy with Cadence Design Systems' performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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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