This article is intended for those of you who are at the beginning of your investing journey and looking to gauge the potential return on investment in Corsa Coal Corp (CVE:CSO).
Corsa Coal Corp (CVE:CSO) delivered an ROE of 50.58% over the past 12 months, which is an impressive feat relative to its industry average of 11.25% during the same period. But what is more interesting is whether CSO can sustain this above-average ratio. A measure of sustainable returns is CSO’s financial leverage. If CSO borrows debt to invest in its business, its profits will be higher. But ROE does not capture any debt, so we only see high profits and low equity, which is great on the surface. But today let’s take a deeper dive below this surface. Check out our latest analysis for Corsa Coal
Breaking down Return on Equity
Return on Equity (ROE) is a measure of Corsa Coal’s profit relative to its shareholders’ equity. It essentially shows how much the company can generate in earnings given the amount of equity it has raised. If investors diversify their portfolio by industry, they may want to maximise their return in the Steel sector by investing in the highest returning stock. However, this can be deceiving as each company has varying costs of equity and debt levels, which could exaggeratedly push up ROE at the same time as accumulating high interest expense.
Return on Equity = Net Profit ÷ Shareholders Equity
ROE is measured against cost of equity in order to determine the efficiency of Corsa Coal’s equity capital deployed. Its cost of equity is 17.66%. This means Corsa Coal returns enough to cover its own cost of equity, with a buffer of 32.92%. This sustainable practice implies that the company pays less for its capital than what it generates in return. ROE can be dissected into three distinct ratios: net profit margin, asset turnover, and financial leverage. This is called the 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
The first component is profit margin, which measures how much of sales is retained after the company pays for all its expenses. Asset turnover reveals how much revenue can be generated from Corsa Coal’s asset base. The most interesting ratio, and reflective of sustainability of its ROE, is financial leverage. We can assess whether Corsa Coal is fuelling ROE by excessively raising debt. Ideally, Corsa Coal should have a balanced capital structure, which we can check by looking at the historic debt-to-equity ratio of the company. The ratio currently stands at a sensible 23.27%, meaning Corsa Coal has not taken on excessive debt to drive its returns. The company is able to produce profit growth without a huge debt burden.
ROE is a simple yet informative ratio, illustrating the various components that each measure the quality of the overall stock. Corsa Coal exhibits a strong ROE against its peers, as well as sufficient returns to cover its cost of equity. Its high ROE is not likely to be driven by high debt. Therefore, investors may have more confidence in the sustainability of this level of returns going forward. ROE is a helpful signal, but it is definitely not sufficient on its own to make an investment decision.
For Corsa Coal, there are three essential 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.
- Future Earnings: How does Corsa Coal’s growth rate compare to its peers and the wider market? Dig deeper into the analyst consensus number for the upcoming years by interacting with our free analyst growth expectation chart.
- Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Corsa Coal? Explore our interactive list of stocks with large growth potential to get an idea of what else is out there you may be missing!