The content of this article will benefit those of you who are starting to educate yourself about investing in the stock market and want a simplistic look at the return on Forward Air Corporation (NASDAQ:FWRD) stock.
With an ROE of 17.19%, Forward Air Corporation (NASDAQ:FWRD) outpaced its own industry which delivered a less exciting 11.75% over the past year. While the impressive ratio tells us that FWRD has made significant profits from little equity capital, ROE doesn’t tell us if FWRD has borrowed debt to make this happen. We’ll take a closer look today at factors like financial leverage to determine whether FWRD’s ROE is actually sustainable. View out our latest analysis for Forward Air
Breaking down Return on Equity
Return on Equity (ROE) weighs Forward Air’s profit against the level of its shareholders’ equity. For example, if the company invests $1 in the form of equity, it will generate $0.17 in earnings from this. Generally speaking, a higher ROE is preferred; however, there are other factors we must also consider before making any conclusions.
Return on Equity = Net Profit ÷ Shareholders Equity
Returns are usually compared to costs to measure the efficiency of capital. Forward Air’s cost of equity is 9.61%. This means Forward Air returns enough to cover its own cost of equity, with a buffer of 7.57%. This sustainable practice implies that the company 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:
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. The other component, asset turnover, illustrates how much revenue Forward Air can make from its 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 financial leverage can artificially inflate ROE, we need to look at how much debt Forward Air currently has. At 7.76%, Forward Air’s debt-to-equity ratio appears low and indicates the above-average ROE is generated from its capacity to increase profit without a large debt burden.
While ROE is a relatively simple calculation, it can be broken down into different ratios, each telling a different story about the strengths and weaknesses of a company. Forward Air’s ROE is impressive relative to the industry average and also covers its cost of equity. Its high ROE is not likely to be driven by high debt. Therefore, investors may have more confidence in the sustainability of this level of returns going forward. ROE is a helpful signal, but it is definitely not sufficient on its own to make an investment decision.
For Forward Air, I’ve compiled three important aspects you should look at:
- 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 Forward Air 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 Forward Air is currently mispriced by the market.
- Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Forward Air? 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.