Over the past 12 months, ING Groep NV (NYSE:ING) generated an ROE of 9.9%, implying the company created 9.9 cents on every dollar of shareholders’ invested capital. While ING Groep N.V turned out to be more efficient than its industry, which delivered a Return on Equity of 9.69%, there are other factors to consider before we call it superior. View our latest analysis for ING Groep N.V
Breaking down ROE — the mother of all ratios
ROE is simply the percentage of past year earnings against the book value of shareholders’ equity, which is the sum of retained earnings and capital raised through equity offerings.While an ROE ratio of more than 15% would draw any investor’s attention, historically, established companies in the developed countries have delivered an ROE between 10% and 12%.
Return on Equity = Net Profit ÷ Shareholders Equity
No matter how high or low return a company generates on equity, it should be more than the cost of equity for value creation. For ING, the cost of equity estimate comes at 10.55% based on the Capital Asset Pricing Model using the current risk free rate and a levered beta to account for financial leverage. That compares to ING Groep N.V’s 9.9% ROE. When we break down ROE using a very popular method called Dupont Formula, it unfolds into three key ratios which are responsible for a company’s profitability: net profit margin, asset turnover, and financial leverage. While higher margin and asset turnover indicate improved efficiency, investors should be cautious about the impact of increased leverage.
ROE = annual net profit ÷ shareholders’ equity
ROE = (annual net profit ÷ sales) × (sales ÷ assets) × (assets ÷ shareholders’ equity)
ROE = profit margin × asset turnover × financial leverage
A trend of profit growing faster than revenue is indicative of improvement in ROE. While investors should assess the past correlation between them, an assessment of the analysts’ profit and revenue forecast points to the most likely scenario going forward.ING Groep N.V’s ROA over the past 12 months stood at 0.6% versus the industry’s 1.03%. Although an investor should look at multi-year asset turnover to assess its effect on the latest ROE, a quick comparison with the industry tells him whether it’s acceptable. We use ROA for the comparison as along with sales, used in asset turnover, earnings, used in ROA, are also comparable within the industry.
We can assess whether ING is fuelling ROE by excessively raising debt or if it has a balanced capital structure by looking at the historic debt-equity trend of the company. While ING Groep N.V’s debt to equity ratio currently stands at 2.59, investors should assess how it has changed over the past few years. To account for leverage, we should look at ING’s Return on capital, which stood at 4% in the past year versus industry’s 0.18%. ROC is earnings as a percentage of overall employed capital compared to just equity as in the case of ROE.
ROE – More than just a profitability ratio
While ROE can be calculated through a very simple calculation, investors should look at various ratios by breaking it down and how each of them affects the return to understand the strengths and weakness of a company. It’s one of the few ratios which stitches together performance metrics from the income statement and the balance sheet. What are the analysts’ projection of ING Groep N.V’s ROE in three years? I recommend you see our latest FREE analysis report to find out!
If you are not interested in ING anymore, you can use our free platform to see my list of stocks with Return on Equity over 20%.