Is the weakness in Abbott Laboratories (NYSE:ABT) stock a sign that the market could be wrong given its strong financial outlook?

Abbott Laboratories Inc (NYSE:ABT) had a tough three months with its share price down 9.9%. However, stock prices are usually determined by a company’s long-term financial performance, which in this case looks quite promising. Specifically, we decided to study the ROE of Abbott Laboratories in this article.

ROE or return on equity is a useful tool for evaluating how effectively a company can generate returns on the investment it has received from its shareholders. In simpler terms, it measures a company’s profitability relative to equity.

How is ROE calculated?

ROE can be calculated using the formula:

Return on equity = Net income (from continuing operations) ÷ Equity

So, based on the formula above, the ROE for Abbott Laboratories is:

21% = US$7.9 billion ÷ US$37 billion (based on trailing 12 months to September 2022).

The “yield” is the amount earned after tax over the last twelve months. One way to conceptualize this is that for every dollar of share capital it has, the company has made a profit of $0.21.

What does ROE have to do with earnings growth?

So far, we have learned that ROE measures how efficiently a company generates its profits. We now need to assess how much profit the company is reinvesting or “retaining” for future growth, which then gives us an idea of ​​the company’s growth potential. Assuming everything else remains unchanged, the higher the ROE and earnings retention, the higher a company’s growth rate relative to companies that don’t necessarily exhibit these characteristics.

A Side-by-Side Comparison of Abbott Laboratories Earnings Growth and 21% ROE

For starters, Abbott Laboratories seems to have a respectable ROE. Especially when compared to the industry average of 11%, the company’s ROE looks pretty impressive. This certainly adds some context to Abbott Laboratories’ exceptional 40% net income growth observed over the past five years. However, there could also be other causes behind this growth. For example, it is possible that the management of the company has made good strategic decisions or that the company has a low payout ratio.

We then compared Abbott Laboratories net income growth with the industry and we are pleased to see that the company growth figure is higher compared to the industry which has a growth rate of 19% during the same period.

NYSE: ABT Past Earnings Growth October 25, 2022

The basis for attaching value to a company is, to a large extent, linked to the growth of its profits. What investors then need to determine is whether the expected earnings growth, or lack thereof, is already priced into the stock price. This then helps them determine if the stock is positioned for a bright or bleak future. Has the market priced in ABT’s future prospects? You can find out in our latest intrinsic value infographic research report.

Does Abbott Laboratories use its profits effectively?

Abbott Laboratories has a large three-year median payout ratio of 51%, which means the company retains only 49% of its revenue. This implies that the company has been able to achieve high earnings growth despite returning most of its profits to shareholders.

Additionally, Abbott Laboratories has paid dividends over a period of at least ten years, which means the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the company’s future payout ratio is expected to drop to 40% over the next three years. Despite the lower expected payout ratio, the company’s ROE is not expected to change much.

Summary

Overall, we are quite satisfied with the performance of Abbott Laboratories. We are particularly impressed with the company’s tremendous earnings growth, which was likely supported by its high ROE. Although the company pays most of its profits in the form of dividends, it was able to increase its profits despite this, so this is probably a good sign. That said, a study of the latest analyst forecasts shows that the company should see a slowdown in future earnings growth. Are these analyst expectations based on general industry expectations or company fundamentals? Click here to access our analyst forecast page for the company.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.

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