Can Westlake Chemical Partners LP (NYSE:WLKP) Continue To Outperform Its Industry?
Westlake Chemical Partners LP (NYSE:WLKP) outperformed the Commodity Chemicals industry on the basis of its ROE – producing a higher 35.65% relative to the peer average of 13.93% over the past 12 months. Superficially, this looks great since we know that WLKP has generated big profits with little equity capital; however, ROE doesn’t tell us how much WLKP has borrowed in debt. We’ll take a closer look today at factors like financial leverage to determine whether WLKP’s ROE is actually sustainable. Check out our latest analysis for Westlake Chemical Partners
Breaking down ROE — the mother of all ratios
Firstly, Return on Equity, or ROE, is simply the percentage of last years’ earning against the book value of shareholders’ equity. For example, if the company invests $1 in the form of equity, it will generate $0.36 in earnings from this. While a higher ROE is preferred in most cases, there are several other factors we should consider before drawing any conclusions.
Return on Equity = Net Profit ÷ Shareholders Equity
ROE is measured against cost of equity in order to determine the efficiency of Westlake Chemical Partners’s equity capital deployed. Its cost of equity is 12.25%. Given a positive discrepancy of 23.40% between return and cost, this indicates that Westlake Chemical Partners pays less for its capital than what it generates in return, which is a sign of capital efficiency. ROE can be split up into three useful 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 Westlake Chemical Partners 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 Westlake Chemical Partners’s debt-to-equity level. The debt-to-equity ratio currently stands at a low 48.97%, meaning the above-average ROE is due to its capacity to produce profit growth without a huge debt burden.
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. Westlake Chemical Partners exhibits a strong ROE against its peers, as well as sufficient returns to cover its cost of equity. ROE is not likely to be inflated by excessive debt funding, giving shareholders more conviction in the sustainability of high returns. Although ROE can be a useful metric, it is only a small part of diligent research.
For Westlake Chemical Partners, there are three relevant 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 Westlake Chemical Partners 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 Westlake Chemical Partners is currently mispriced by the market.
Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Westlake Chemical Partners? 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.
