Sandy Spring Bancorp Inc (NASDAQ:SASR) outperformed the Regional Banks industry on the basis of its ROE – producing a higher 10.58% relative to the peer average of 8.93% over the past 12 months. Superficially, this looks great since we know that SASR has generated big profits with little equity capital; however, ROE doesn’t tell us how much SASR has borrowed in debt. In this article, we’ll closely examine some factors like financial leverage to evaluate the sustainability of SASR’s ROE. See our latest analysis for Sandy Spring Bancorp
Breaking down Return on Equity
Return on Equity (ROE) is a measure of Sandy Spring Bancorp’s profit relative to its shareholders’ equity. An ROE of 10.58% implies $0.11 returned on every $1 invested. 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
ROE is measured against cost of equity in order to determine the efficiency of Sandy Spring Bancorp’s equity capital deployed. Its cost of equity is 8.49%. Given a positive discrepancy of 2.09% between return and cost, this indicates that Sandy Spring Bancorp pays less for its capital than what it generates in return, which is a sign of capital efficiency. 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
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 reveals how much revenue can be generated from Sandy Spring Bancorp’s asset base. Finally, financial leverage will be our main focus today. It shows how much of assets are funded by equity and can show how sustainable the company’s capital structure is. Since ROE can be artificially increased through excessive borrowing, we should check Sandy Spring Bancorp’s historic debt-to-equity ratio. The debt-to-equity ratio currently stands at a balanced 138.09%, 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? SASR exhibits a strong ROE against its peers, as well as sufficient returns to cover its cost of equity. Since its high ROE is not likely driven by high debt, it might be a good time to top up on your current holdings if your fundamental research reaffirms this analysis. 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 SASR has been on your watch list for a while, making an investment decision based on ROE alone is unwise. I recommend you do additional fundamental analysis by looking through our most recent infographic report on Sandy Spring Bancorp 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.