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Is Washington Prime Group Inc.'s (NYSE:WPG) ROE Of 5.1% Impressive?

While some investors are already well versed in financial metrics (hat tip), this article is for those who would like to learn about Return On Equity (ROE) and why it is important. By way of learning-by-doing, we'll look at ROE to gain a better understanding of Washington Prime Group Inc. (NYSE:WPG).

Over the last twelve months Washington Prime Group has recorded a ROE of 5.1%. That means that for every $1 worth of shareholders' equity, it generated $0.05 in profit.

See our latest analysis for Washington Prime Group

How Do I Calculate ROE?

The formula for return on equity is:

Return on Equity = Net Profit ÷ Shareholders' Equity

Or for Washington Prime Group:

5.1% = US$28m ÷ US$941m (Based on the trailing twelve months to September 2019.)

Most know that net profit is the total earnings after all expenses, but the concept of shareholders' equity is a little more complicated. It is all the money paid into the company from shareholders, plus any earnings retained. Shareholders' equity can be calculated by subtracting the total liabilities of the company from the total assets of the company.

What Does Return On Equity Mean?

ROE measures a company's profitability against the profit it retains, and any outside investments. The 'return' is the yearly profit. That means that the higher the ROE, the more profitable the company is. So, all else equal, investors should like a high ROE. Clearly, then, one can use ROE to compare different companies.

Does Washington Prime Group Have A Good ROE?

By comparing a company's ROE with its industry average, we can get a quick measure of how good it is. The limitation of this approach is that some companies are quite different from others, even within the same industry classification. The image below shows that Washington Prime Group has an ROE that is roughly in line with the REITs industry average (5.9%).

NYSE:WPG Past Revenue and Net Income, November 6th 2019
NYSE:WPG Past Revenue and Net Income, November 6th 2019

That isn't amazing, but it is respectable. ROE can give us a view about company quality, but many investors also look to other factors, such as whether there are insiders buying shares. I will like Washington Prime Group better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.

How Does Debt Impact Return On Equity?

Companies usually need to invest money to grow their profits. The cash for investment can come from prior year profits (retained earnings), issuing new shares, or borrowing. In the case of the first and second options, the ROE will reflect this use of cash, for growth. In the latter case, the use of debt will improve the returns, but will not change the equity. That will make the ROE look better than if no debt was used.

Washington Prime Group's Debt And Its 5.1% ROE

It appears that Washington Prime Group makes extensive use of debt to improve its returns, because it has a relatively high debt to equity ratio of 3.22. The combination of a fairly unimpressive ROE, despite taking on a lot of debt, suggests the business is of average quality at best.

But It's Just One Metric

Return on equity is useful for comparing the quality of different businesses. In my book the highest quality companies have high return on equity, despite low debt. All else being equal, a higher ROE is better.

But when a business is high quality, the market often bids it up to a price that reflects this. The rate at which profits are likely to grow, relative to the expectations of profit growth reflected in the current price, must be considered, too. So you might want to check this FREE visualization of analyst forecasts for the company.

If you would prefer check out another company -- one with potentially superior financials -- then do not miss thisfree list of interesting companies, that have HIGH return on equity and low debt.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.

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