Yahoo Finance Can Hollysys Automation Technologies Ltd’s (NASDAQ:HOLI) ROE Continue To Surpass The Industry Average?
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Hollysys Automation Technologies Ltd (NASDAQ:HOLI) outperformed the Electronic Equipment and Instruments industry on the basis of its ROE – producing a higher 12.8% relative to the peer average of 9.5% over the past 12 months. On the surface, this looks fantastic since we know that HOLI has made large profits from little equity capital; however, ROE doesn’t tell us if management have borrowed heavily to make this happen. Today, we’ll take a closer look at some factors like financial leverage to see how sustainable HOLI’s ROE is.
See our latest analysis for Hollysys Automation Technologies
Peeling the layers of ROE – trisecting a company’s profitability
Return on Equity (ROE) is a measure of Hollysys Automation Technologies’s profit relative to its shareholders’ equity. For example, if the company invests $1 in the form of equity, it will generate $0.13 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 Hollysys Automation Technologies’s equity capital deployed. Its cost of equity is 10.3%. This means Hollysys Automation Technologies returns enough to cover its own cost of equity, with a buffer of 2.5%. This sustainable practice implies that the company pays less 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
Essentially, profit margin shows how much money the company makes after paying for all its expenses. Asset turnover reveals how much revenue can be generated from Hollysys Automation Technologies’s asset base. The most interesting ratio, and reflective of sustainability of its ROE, is financial leverage. Since ROE can be inflated by excessive debt, we need to examine Hollysys Automation Technologies’s debt-to-equity level. Currently the debt-to-equity ratio stands at a low 2.8%, which means its above-average ROE is driven by its ability to grow its profit without a significant debt burden.
Next Steps:
ROE is a simple yet informative ratio, illustrating the various components that each measure the quality of the overall stock. Hollysys Automation Technologies 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. ROE is a helpful signal, but it is definitely not sufficient on its own to make an investment decision.
For Hollysys Automation Technologies, there are three fundamental 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 Hollysys Automation Technologies 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 Hollysys Automation Technologies is currently mispriced by the market.
Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Hollysys Automation Technologies? 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 past 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. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.
