Vertex Pharmaceuticals Incorporated's (NASDAQ:VRTX) Stock Been Rising: Are Strong Financials Guiding The Market?

Simply Wall St
·3 min read

Vertex Pharmaceuticals' (NASDAQ:VRTX) stock up by 9.9% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. In this article, we decided to focus on Vertex Pharmaceuticals' 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.

View our latest analysis for Vertex Pharmaceuticals

How To Calculate Return On Equity?

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 Vertex Pharmaceuticals is:

25% = US$3.3b ÷ US$13b (Based on the trailing twelve months to September 2022).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.25 in profit.

What Has ROE Got To Do With 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 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 Vertex Pharmaceuticals' Earnings Growth And 25% ROE

Firstly, we acknowledge that Vertex Pharmaceuticals has a significantly high ROE. Even when compared to the industry average of 25% the company's ROE is pretty decent. Given the circumstances, the significant 29% net income growth seen by Vertex Pharmaceuticals over the last five years is not surprising.

Next, on comparing Vertex Pharmaceuticals' net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 28% in the same period.

past-earnings-growth
past-earnings-growth

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. What is VRTX worth today? The intrinsic value infographic in our free research report helps visualize whether VRTX is currently mispriced by the market.

Is Vertex Pharmaceuticals Making Efficient Use Of Its Profits?

Vertex Pharmaceuticals doesn't pay any dividend to its shareholders, meaning that the company has been reinvesting all of its profits into the business. This is likely what's driving the high earnings growth number discussed above.

Summary

In total, we are pretty happy with Vertex Pharmaceuticals' 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. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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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