With an ROE of 23.03%, Capricor Therapeutics Inc (NASDAQ:CAPR) outpaced its own industry which delivered a less exciting 18.07% over the past year. Superficially, this looks great since we know that CAPR has generated big profits with little equity capital; however, ROE doesn’t tell us how much CAPR has borrowed in debt. Today, we’ll take a closer look at some factors like financial leverage to see how sustainable CAPR’s ROE is. Check out our latest analysis for Capricor Therapeutics
Breaking down ROE — the mother of all ratios
Return on Equity (ROE) is a measure of Capricor Therapeutics’s profit relative to its shareholders’ equity. For example, if the company invests $1 in the form of equity, it will generate $0.23 in earnings from this. In most cases, a higher ROE is preferred; however, there are many other factors we must consider prior to making any investment decisions.
Return on Equity = Net Profit ÷ Shareholders Equity
Returns are usually compared to costs to measure the efficiency of capital. Capricor Therapeutics’s cost of equity is 10.52%. Since Capricor Therapeutics’s return covers its cost in excess of 12.51%, its use of equity capital is efficient and likely to be sustainable. Simply put, Capricor Therapeutics pays less for its capital than what it generates 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:
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 Capricor Therapeutics can make from its 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 financial leverage can artificially inflate ROE, we need to look at how much debt Capricor Therapeutics currently has. Currently, Capricor Therapeutics has no debt which means its returns are driven purely by equity capital. Therefore, the level of financial leverage has no impact on ROE, and the ratio is a representative measure of the efficiency of all its capital employed firm-wide.
ROE is one of many ratios which meaningfully dissects financial statements, which illustrates the quality of a company. Capricor Therapeutics exhibits a strong ROE against its peers, as well as sufficient returns to cover its cost of equity. ROE is not likely to be inflated by excessive debt funding, giving shareholders more conviction in the sustainability of high returns. Although ROE can be a useful metric, it is only a small part of diligent research.
For Capricor Therapeutics, there are three fundamental factors 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.
- Future Earnings: How does Capricor Therapeutics’s growth rate compare to its peers and the wider market? Dig deeper into the analyst consensus number for the upcoming years by interacting with our free analyst growth expectation chart.
- Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Capricor Therapeutics? 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.