Is Banc of California Inc’s (BANC) ROE Of 10.57% Sustainable?
With an ROE of 10.57%, Banc of California Inc (NYSE:BANC) outpaced its own industry which delivered a less exciting 8.95% over the past year. Superficially, this looks great since we know that BANC has generated big profits with little equity capital; however, ROE doesn’t tell us how much BANC has borrowed in debt. Today, we’ll take a closer look at some factors like financial leverage to see how sustainable BANC’s ROE is. See our latest analysis for BANC
What you must know about ROE
Return on Equity (ROE) is a measure of BANC’s profit relative to its shareholders’ equity. It essentially shows how much BANC can generate in earnings given the amount of equity it has raised. While a higher ROE is preferred in most cases, there are several other factors we should consider before drawing any conclusions.
Return on Equity = Net Profit ÷ Shareholders Equity
ROE is measured against cost of equity in order to determine the efficiency of BANC’s equity capital deployed. Its cost of equity is 11.03%. Given a discrepancy of -0.46% between return and cost, this indicated that BANC may be paying more for its capital than what it’s generating in return. ROE can be split up into three useful ratios: net profit margin, asset turnover, and financial leverage. This is called the Dupont Formula:
Dupont Formula
ROE = profit margin × asset turnover × financial leverage
ROE = (annual net profit ÷ sales) × (sales ÷ assets) × (assets ÷ shareholders’ equity)
ROE = annual net profit ÷ shareholders’ equity
Essentially, profit margin shows how much money the company makes after paying for all its expenses. Asset turnover shows how much revenue BANC can generate with its current asset base. The most interesting ratio, and reflective of sustainability of its ROE, is financial leverage. Since ROE can be inflated by excessive debt, we need to examine BANC’s debt-to-equity level. The debt-to-equity ratio currently stands at a balanced 109.10%, meaning the above-average ROE is due to its capacity to produce profit growth without a huge debt burden.
What this means for you:
Are you a shareholder? BANC’s ROE is impressive relative to the industry average, though its returns were not strong enough to cover its own cost of equity. Since its high ROE is not fuelled by unsustainable debt, investors shouldn’t give up as BANC still has capacity to improve shareholder returns by borrowing to invest in new projects in the future. If you're looking for new ideas for high-returning stocks, you should take a look at our free platform to see the list of stocks with Return on Equity over 20%.
Are you a potential investor? If you are considering investing in BANC, basing your decision on ROE alone is certainly not sufficient. I recommend you do additional fundamental analysis by looking through our most recent infographic report on Banc of California to help you make a more informed investment decision.
To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned.
