Will Tritax Big Box REIT plc (LON:BBOX) Continue To Underperform Its Industry?
Tritax Big Box REIT plc (LSE:BBOX) delivered a less impressive 8.25% ROE over the past year, compared to the 8.58% return generated by its industry. Though BBOX’s recent performance is underwhelming, it is useful to understand what ROE is made up of and how it should be interpreted. Knowing these components can change your views on BBOX’s below-average returns. Metrics such as financial leverage can impact the level of ROE which in turn can affect the sustainability of BBOX’s returns. Let me show you what I mean by this. View our latest analysis for Tritax Big Box REIT
Breaking down Return on Equity
Return on Equity (ROE) weighs Tritax Big Box REIT’s profit against the level of its shareholders’ equity. An ROE of 8.25% implies £0.08 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 assessed against cost of equity, which is measured using the Capital Asset Pricing Model (CAPM) – but let’s not dive into the details of that today. For now, let’s just look at the cost of equity number for Tritax Big Box REIT, which is 8.30%. This means Tritax Big Box REIT’s returns actually do not cover its own cost of equity, with a discrepancy of -0.043%. This isn’t sustainable as it implies, very simply, that the company pays more for its capital than what it generates in return. ROE can be broken down into three different 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
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 Tritax Big Box REIT 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 Tritax Big Box REIT’s debt-to-equity level. Currently the debt-to-equity ratio stands at a low 37.30%, which means Tritax Big Box REIT still has headroom to take on more leverage in order to increase profits.
Next Steps:
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. Tritax Big Box REIT exhibits a weak ROE against its peers, as well as insufficient levels to cover its own cost of equity this year. Although, its appropriate level of leverage means investors can be more confident in the sustainability of Tritax Big Box REIT’s return with a possible increase should the company decide to increase its debt levels. Although ROE can be a useful metric, it is only a small part of diligent research.
For Tritax Big Box REIT, there are three relevant aspects you should further examine:
1. 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.
2. Valuation: What is Tritax Big Box REIT 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 Tritax Big Box REIT is currently mispriced by the market.
3. Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Tritax Big Box REIT? 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.
