Chorus Aviation Inc (TSE:CHR) Delivered A Better ROE Than The Industry, Here’s Why
Chorus Aviation Inc (TSX:CHR) outperformed the Airlines industry on the basis of its ROE – producing a higher 36.58% relative to the peer average of 28.97% over the past 12 months. Superficially, this looks great since we know that CHR has generated big profits with little equity capital; however, ROE doesn’t tell us how much CHR has borrowed in debt. We’ll take a closer look today at factors like financial leverage to determine whether CHR’s ROE is actually sustainable. View our latest analysis for Chorus Aviation
What you must know about ROE
Return on Equity (ROE) is a measure of Chorus Aviation’s profit relative to its shareholders’ equity. For example, if the company invests CA$1 in the form of equity, it will generate CA$0.37 in earnings from this. 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 Chorus Aviation’s equity capital deployed. Its cost of equity is 6.82%. Since Chorus Aviation’s return covers its cost in excess of 29.76%, its use of equity capital is efficient and likely to be sustainable. Simply put, Chorus Aviation 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
Essentially, profit margin shows how much money the company makes after paying for all its expenses. The other component, asset turnover, illustrates how much revenue Chorus Aviation can make from its asset base. The most interesting ratio, and reflective of sustainability of its ROE, is financial leverage. Since financial leverage can artificially inflate ROE, we need to look at how much debt Chorus Aviation currently has. The debt-to-equity ratio currently stands at over 2.5 times, 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. Chorus Aviation’s above-industry ROE is encouraging, and is also in excess of its cost of equity. Its high debt level means its strong ROE may be driven by debt funding which raises concerns over the sustainability of Chorus Aviation’s returns. ROE is a helpful signal, but it is definitely not sufficient on its own to make an investment decision.
For Chorus Aviation, I’ve put together three essential factors you should further research:
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 Chorus Aviation 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 Chorus Aviation is currently mispriced by the market.
Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Chorus Aviation? 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.
