This analysis is intended to introduce important early concepts to people who are starting to invest and want to begin learning the link between SVB Financial Group (NASDAQ:SIVB)’s return fundamentals and stock market performance.
SVB Financial Group (NASDAQ:SIVB) outperformed the Regional Banks industry on the basis of its ROE – producing a higher 13.58% relative to the peer average of 8.48% over the past 12 months. While the impressive ratio tells us that SIVB has made significant profits from little equity capital, ROE doesn’t tell us if SIVB has borrowed debt to make this happen. In this article, we’ll closely examine some factors like financial leverage to evaluate the sustainability of SIVB’s ROE. See our latest analysis for SVB Financial Group
Peeling the layers of ROE – trisecting a company’s profitability
Return on Equity (ROE) weighs SVB Financial Group’s profit against the level of its shareholders’ equity. It essentially shows how much the company can generate in earnings given the amount of equity it has raised. 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
ROE is measured against cost of equity in order to determine the efficiency of SVB Financial Group’s equity capital deployed. Its cost of equity is 9.96%. Since SVB Financial Group’s return covers its cost in excess of 3.63%, its use of equity capital is efficient and likely to be sustainable. Simply put, SVB Financial Group 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
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 shows how much revenue SVB Financial Group 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 SVB Financial Group’s debt-to-equity level. Currently the debt-to-equity ratio stands at a low 42.01%, which means its above-average ROE is driven by its ability to grow its profit without a significant 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. SVB Financial Group exhibits a strong ROE against its peers, as well as sufficient returns to cover 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. Although ROE can be a useful metric, it is only a small part of diligent research.
For SVB Financial Group, I’ve put together three essential aspects 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 SVB Financial Group 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 SVB Financial Group is currently mispriced by the market.
- Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of SVB Financial Group? 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.