Public Joint Stock Company Uralkali (MISX:URKA) outperformed the Fertilizers and Agricultural Chemicals industry on the basis of its ROE – producing a higher 76.08% relative to the peer average of 24.72% over the past 12 months. Superficially, this looks great since we know that URKA has generated big profits with little equity capital; however, ROE doesn’t tell us how much URKA has borrowed in debt. We’ll take a closer look today at factors like financial leverage to determine whether URKA’s ROE is actually sustainable. See our latest analysis for Uralkali
Breaking down ROE — the mother of all ratios
Return on Equity (ROE) weighs Uralkali’s profit against the level of its shareholders’ equity. An ROE of 76.08% implies RUB0.76 returned on every RUB1 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
Returns are usually compared to costs to measure the efficiency of capital. Uralkali’s cost of equity is 20.85%. This means Uralkali returns enough to cover its own cost of equity, with a buffer of 55.23%. This sustainable practice implies that the company 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 Uralkali 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 ROE can be artificially increased through excessive borrowing, we should check Uralkali’s historic debt-to-equity ratio. The debt-to-equity ratio currently stands at over 2.5 times, meaning the above-average ratio is a result of a large amount of debt.
ROE is a simple yet informative ratio, illustrating the various components that each measure the quality of the overall stock. Uralkali’s ROE is impressive relative to the industry average and also covers its cost of equity. With debt capital in excess of equity, ROE may be inflated by the use of debt funding, raising questions over the sustainability of the company’s returns. Although ROE can be a useful metric, it is only a small part of diligent research.
For Uralkali, I’ve put together three important factors you should further research:
- 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 Uralkali 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 Uralkali is currently mispriced by the market.
- Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Uralkali? 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.