What is Behind Atlantia Sp.A.’s (BIT:ATL) Superior ROE?
With an ROE of 12.18%, Atlantia Sp.A. (BIT:ATL) outpaced its own industry which delivered a less exciting 11.20% over the past year. Superficially, this looks great since we know that ATL has generated big profits with little equity capital; however, ROE doesn’t tell us how much ATL has borrowed in debt. In this article, we’ll closely examine some factors like financial leverage to evaluate the sustainability of ATL’s ROE. View our latest analysis for Atlantia
Breaking down ROE — the mother of all ratios
Return on Equity (ROE) is a measure of Atlantia’s profit relative to its shareholders’ equity. It essentially shows how much the company 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 assessed against cost of equity, which is measured using the Capital Asset Pricing Model (CAPM) – but let’s not dive into the details of that today. For now, let’s just look at the cost of equity number for Atlantia, which is 8.40%. Since Atlantia’s return covers its cost in excess of 3.79%, its use of equity capital is efficient and likely to be sustainable. Simply put, Atlantia pays less for its capital than what it generates in return. ROE can be dissected into three distinct 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
Basically, profit margin measures how much of revenue trickles down into earnings which illustrates how efficient the business is with its cost management. Asset turnover shows how much revenue Atlantia can generate with its current asset base. And finally, financial leverage is simply how much of assets are funded by equity, which exhibits how sustainable the company’s capital structure is. Since ROE can be inflated by excessive debt, we need to examine Atlantia’s debt-to-equity level. The debt-to-equity ratio currently stands at a high 154.92%, meaning the above-average ratio is a result of a large amount of debt.
Next Steps:
ROE is a simple yet informative ratio, illustrating the various components that each measure the quality of the overall stock. Atlantia’s above-industry ROE is encouraging, and is also in excess of its cost of equity. With debt capital in excess of equity, ROE may be inflated by the use of debt funding, raising questions over the sustainability of the company’s returns. Although ROE can be a useful metric, it is only a small part of diligent research.
For Atlantia, there are three essential aspects you should further examine:
Financial Health: Does it have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
Valuation: What is Atlantia worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether Atlantia is currently mispriced by the market.
Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Atlantia? Explore our interactive list of stocks with large growth potential to get an idea of what else is out there you may be missing!
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.
