Topics covered in this article:
- Overview: The Future Growth Section
- How do we Calculate Growth Rates?
- Earnings and Revenue Forecast
- Analyst Future Growth Forecast
- Earnings Per Share Growth Forecast
- Future Return On Equity
The Future Growth section examines professional analyst estimates of company’s future expectations for revenue, cash flow, net income, and return on equity, which in turn are used to calculate growth for the respective line items. Historically, it has been demonstrated that analyst estimates, on average, are relatively accurate over the short term.
The six main metrics that we check contributing to the snowflake score are:
- Earnings vs Savings Rate
- Earnings vs Market
- High Growth Earnings
- Revenue vs Market
- High Growth Revenue
- Future ROE
These are further discussed in the succeeding part of this article.
Based on analysts’ estimates
When a company is covered by analysts, we rely on the consensus of their estimates to calculate its future growth rate. Note that these analysts covering the company are not our analysts but from different institutions. They may come from independent research firms, investment banks, and brokers. The number of analysts covering is not the same for every company.
Similar to the previous calculation method, we plot a best-fit line through each estimate to determine the slope, which corresponds to the growth rate. However, in this case, we don't assign equal weight to each data point. Instead, we give higher weight to the years with more analyst coverage. In the case of MSFT, forecasts for FY2024 have more analyst coverage compared to FY2025 and FY2026.
This means that estimates from 49 analysts' forecasts are considered more heavily than those from only a few analysts. The initial data point is derived from the most recent earnings release and is given a weight of one, providing a comprehensive and weighted approach to estimating future growth rates based on analyst consensus.
For more information on Simply Wall St’s line of best-fit calculations or our 3 growth rate methods above, please read our document on How SWS calculates growth rates on our GitHub page.
In this section, we provide insights into the financial outlook of the company. Earnings and Revenue Growth Forecasts shed light on the trajectory of their financial health, aiding stakeholders and investors in assessing potential returns. The Free Cash Flow Forecast focuses on financial liquidity and investment capacity, while the Cash Flow from Operations Forecast details expected cash flows within their core operations, offering valuable insights into operational efficiency and financial sustainability.
1. Revenue - represents what the business generates from its sales or services, reflecting its top-line financial performance.
2. Earnings - represent the net profit or income remaining after subtracting all expenses, reflecting the financial success or performance of a company.
3. Free Cash Flow - surplus cash generated by a business after covering operating expenses and capital expenditures, indicating its ability to invest, grow, or return value to shareholders.
4. Cash from Operations - represents the amount of cash a company generates from its core business activities, providing insight into its liquidity and operational strength.
This section is, where the majority of the metrics contributing to the snowflake score are being checked, is where we evaluate the company's future prospects by comparing its earnings and revenue growth to relevant benchmarks, providing a holistic view of the company's forecasted financial performance.
1. Earnings vs Savings Rate check - This check measures whether the expected net income/ earnings growth of a stock at least matches the low-risk savings rate plus a premium to keep pace with inflation. If not, it may be more rational to invest in a low-risk savings product rather than the stock being reviewed, which carries a higher level of risk.
If the average annual growth rate of earnings is greater than the low-risk savings rate plus inflation, then the stock is scored one point.
If the company is expected to become profitable in the next 5 years, then the stock is also scored one point.
Compared to the savings rate of 2.2%, MSFT may potentially offer greater financial returns than low-risk government bonds, with a forecasted earnings growth of 12.2%.
2. Earnings vs Market check - This check measures whether the company is expected to grow net income/ earnings by more than the average stock in the market in which it is listed.
If the average annual growth rate of net income is greater than the weighted average earnings growth for stocks listed in the same country, then the stock is scored one point.
MSFT is expected to experience slower earnings growth compared to the US Market.
3. High Growth Earnings check - This check is used to identify high-growth companies by looking at the annual growth rate of their earnings. Earnings growth indicates whether the company can grow its profitability, which fundamentally impacts the valuation of the company.
If the average annual growth rate of net income/ earnings is greater than 20%, then the stock is scored one point.
Since MSFT's projected earnings growth is less than 20%, the company is not considered “high growth” in terms of earnings.
4. Revenue vs Market check - This check measures whether the company is expected to grow revenue by more than the average stock in the market in which it is listed.
If the average annual growth rate of revenue is greater than the weighted average revenue growth for stocks listed in the same country, then the stock is scored one point.
Compared to the US Market, MSFT’s revenue is expected to grow faster.
5. High Growth Revenue check - This check is used to identify high-growth companies by looking at the annual growth rate of their revenues. Revenue growth is a pure measure of growth, as the number is more difficult to manipulate. It usually sheds light on how the company's operations are doing and how they are growing, whether it is increasing prices, expanding market share or introducing new products.
If the average annual growth rate revenue is greater than 20%, then the stock is scored one point.
Because MSFT's estimated revenue growth is below 20%, the company is not categorized as a "high-growth" entity concerning its revenue.
This section highlights EPS and forecasted EPS to aid investors in understanding how well a company will be sustaining its earnings relative to its outstanding shares.
Earnings per Share
The company’s earnings are expressed on a per-share basis. The EPS figure is widely used to measure the absolute profit that a company earns on a per-share basis. As it uses a common base, EPS can be used to compare different companies and industries. For that reason, it is used in the calculation of the Price to Earnings (PE) Ratio, which indicates the relative price of different companies' stock prices.
This section evaluates the company's future profitability through Return on Equity (ROE). Return on Equity measures the profitability in terms of a company's shareholders' funds. It indicates the profitability and efficiency of the usage of the company's shareholders' funds to generate profits.
Future ROE check - the Return on Equity (ROE) in 3 years' time is calculated based on the average analyst estimates of earnings.
If the ROE in 3 years’ time is estimated to be > 20% the stock is scored one point and will contribute to the snowflake score.