This analysis is intended to introduce important early concepts to people who are starting to invest and want to better understand how you can grow your money by investing in Pro Real Estate Investment Trust (CVE:PRV.UN).
Pro Real Estate Investment Trust’s (CVE:PRV.UN) most recent return on equity was a substandard 6.83% relative to its industry performance of 11.13% 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 PRV.UN’s past performance. Metrics such as financial leverage can impact the level of ROE which in turn can affect the sustainability of PRV.UN’s returns. Let me show you what I mean by this. See our latest analysis for Pro Real Estate Investment Trust
Breaking down ROE — the mother of all ratios
Return on Equity (ROE) weighs Pro Real Estate Investment Trust’s profit against the level of its shareholders’ equity. An ROE of 6.83% implies CA$0.068 returned on every CA$1 invested, so the higher the return, the better. Investors seeking to maximise their return in the Diversified REITs industry may want to choose the highest returning stock. However, this can be misleading as each firm has different costs of equity and debt levels i.e. the more debt Pro Real Estate Investment Trust has, the higher ROE is pumped up in the short term, at the expense of long term interest payment burden.
Return on Equity = Net Profit ÷ Shareholders Equity
ROE is assessed against cost of equity, which is measured using the Capital Asset Pricing Model (CAPM) – but let’s not dive into the details of that today. For now, let’s just look at the cost of equity number for Pro Real Estate Investment Trust, which is 8.47%. Since Pro Real Estate Investment Trust’s return does not cover its cost, with a difference of -1.64%, this means its current use of equity is not efficient and not sustainable. Very simply, Pro Real Estate Investment Trust pays more for its capital than what it generates in return. ROE can be split up into three useful 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
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 reveals how much revenue can be generated from Pro Real Estate Investment Trust’s asset base. The most interesting ratio, and reflective of sustainability of its ROE, is financial leverage. ROE can be inflated by disproportionately high levels of debt. This is also unsustainable due to the high interest cost that the company will also incur. Thus, we should look at Pro Real Estate Investment Trust’s debt-to-equity ratio to examine sustainability of its returns. The most recent ratio is 144.68%, which is relatively proportionate and indicates Pro Real Estate Investment Trust has not taken on extreme leverage. Thus, we can conclude its current ROE is generated from its capacity to increase profit without a massive debt burden.
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. Pro Real Estate Investment Trust’s ROE is underwhelming relative to the industry average, and its returns were also not strong enough to cover its own cost of equity. Although, its appropriate level of leverage means investors can be more confident in the sustainability of Pro Real Estate Investment Trust’s return with a possible increase should the company decide to increase its debt levels. Although ROE can be a useful metric, it is only a small part of diligent research.
For Pro Real Estate Investment Trust, I’ve put together three fundamental factors 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 Pro Real Estate Investment Trust 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 Pro Real Estate Investment Trust is currently mispriced by the market.
- Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Pro Real Estate Investment Trust? Explore our interactive list of stocks with large growth potential to get an idea of what else is out there you may be missing!