Yahoo Finance Will PerkinElmer Inc (NYSE:PKI) Continue To Underperform Its Industry?
This analysis is intended to introduce important early concepts to people who are starting to invest and want to learn about Return on Equity using a real-life example.
PerkinElmer Inc’s (NYSE:PKI) most recent return on equity was a substandard 5.9% relative to its industry performance of 11.4% over the past year. An investor may attribute an inferior ROE to a relatively inefficient performance, and whilst this can often be the case, knowing the nuts and bolts of the ROE calculation may change that perspective and give you a deeper insight into PKI’s past performance. I will take you through how metrics such as financial leverage impact ROE which may affect the overall sustainability of PKI’s returns.
See our latest analysis for PerkinElmer
Breaking down ROE — the mother of all ratios
Return on Equity (ROE) weighs PerkinElmer’s profit against the level of its shareholders’ equity. For example, if the company invests $1 in the form of equity, it will generate $0.059 in earnings from this. 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. PerkinElmer’s cost of equity is 10.3%. Since PerkinElmer’s return does not cover its cost, with a difference of -4.4%, this means its current use of equity is not efficient and not sustainable. Very simply, PerkinElmer 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 PerkinElmer can generate with its current asset base. And finally, financial leverage is simply how much of assets are funded by equity, which exhibits how sustainable the company’s capital structure is. Since ROE can be artificially increased through excessive borrowing, we should check PerkinElmer’s historic debt-to-equity ratio. At 79.5%, PerkinElmer’s debt-to-equity ratio appears sensible and indicates its ROE is generated from its capacity to increase profit without a large debt burden.
Next Steps:
ROE is a simple yet informative ratio, illustrating the various components that each measure the quality of the overall stock. PerkinElmer’s below-industry ROE is disappointing, furthermore, its returns were not even high enough to cover its own cost of equity. Although, its appropriate level of leverage means investors can be more confident in the sustainability of PerkinElmer’s return with a possible increase should the company decide to increase its debt levels. ROE is a helpful signal, but it is definitely not sufficient on its own to make an investment decision.
For PerkinElmer, there are three important factors you should further examine:
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 PerkinElmer 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 PerkinElmer is currently mispriced by the market.
Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of PerkinElmer? 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.
