How Freeport-McMoRan Inc (NYSE:FCX) Delivered A Better ROE Than Its Industry
Freeport-McMoRan Inc (NYSE:FCX) delivered an ROE of 21.71% over the past 12 months, which is an impressive feat relative to its industry average of 11.16% during the same period. Superficially, this looks great since we know that FCX has generated big profits with little equity capital; however, ROE doesn’t tell us how much FCX has borrowed in debt. Today, we’ll take a closer look at some factors like financial leverage to see how sustainable FCX’s ROE is. Check out our latest analysis for Freeport-McMoRan
Breaking down Return on Equity
Return on Equity (ROE) weighs Freeport-McMoRan’s profit against the level of its shareholders’ equity. An ROE of 21.71% implies $0.22 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 Freeport-McMoRan’s equity capital deployed. Its cost of equity is 5.92%. Given a positive discrepancy of 15.79% between return and cost, this indicates that Freeport-McMoRan 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:
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 Freeport-McMoRan can generate with its current 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 inflated by excessive debt, we need to examine Freeport-McMoRan’s debt-to-equity level. At 97.32%, Freeport-McMoRan’s debt-to-equity ratio appears balanced and indicates the above-average ROE is generated from its capacity to increase profit without a large debt burden.
Next Steps:
ROE is a simple yet informative ratio, illustrating the various components that each measure the quality of the overall stock. Freeport-McMoRan’s above-industry ROE is encouraging, and is also in excess of 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 Freeport-McMoRan, there are three relevant 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.
Valuation: What is Freeport-McMoRan 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 Freeport-McMoRan is currently mispriced by the market.
Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Freeport-McMoRan? 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.
