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It is hard to get excited after looking at Automatic Data Processing's (NASDAQ:ADP) recent performance, when its stock has declined 3.5% over the past month. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Specifically, we decided to study Automatic Data Processing's 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. Put another way, it reveals the company's success at turning shareholder investments into profits.
How Is ROE Calculated?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Automatic Data Processing is:
77% = US$3.9b ÷ US$5.1b (Based on the trailing twelve months to December 2024).
The 'return' is the profit over the last twelve months. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.77.
View our latest analysis for Automatic Data Processing
Why Is ROE Important For Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
Automatic Data Processing's Earnings Growth And 77% ROE
To begin with, Automatic Data Processing has a pretty high ROE which is interesting. Secondly, even when compared to the industry average of 21% the company's ROE is quite impressive. This likely paved the way for the modest 11% net income growth seen by Automatic Data Processing over the past five years.
As a next step, we compared Automatic Data Processing's 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 10% in the same period.
Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Automatic Data Processing is trading on a high P/E or a low P/E, relative to its industry.