Pfizer (NYSE:PFE) has had a rough month with its share price down 2.9%. It is possible that the markets have ignored the company's differing financials and decided to lean-in to the negative sentiment. Stock prices are usually driven by a company’s financial performance over the long term, and therefore we decided to pay more attention to the company's financial performance. In this article, we decided to focus on Pfizer's ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Pfizer

How Do You 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 Pfizer is:

8.7% = US$8.1b ÷ US$93b (Based on the trailing twelve months to December 2024).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.09 in profit.

Why Is ROE Important For 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. 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.

Pfizer's Earnings Growth And 8.7% ROE

When you first look at it, Pfizer's ROE doesn't look that attractive. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 19%. For this reason, Pfizer's five year net income decline of 3.1% is not surprising given its lower ROE. We reckon that there could also be other factors at play here. Such as - low earnings retention or poor allocation of capital.

So, as a next step, we compared Pfizer's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 1.8% over the last few years.

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Pfizer is trading on a high P/E or a low P/E, relative to its industry.

Is Pfizer Efficiently Re-investing Its Profits?

Despite having a normal three-year median payout ratio of 35% (where it is retaining 65% of its profits), Pfizer has seen a decline in earnings as we saw above. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Additionally, Pfizer has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 58% over the next three years. Still, forecasts suggest that Pfizer's future ROE will rise to 17% even though the the company's payout ratio is expected to rise. We presume that there could some other characteristics of the business that could be driving the anticipated growth in the company's ROE.

Summary

Overall, we have mixed feelings about Pfizer. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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.