Groupe Minoteries SA (VTX:GMI): Can It Deliver A Superior ROE To The Industry?

Groupe Minoteries SA (SWX:GMI) delivered a less impressive 5.82% ROE over the past year, compared to the 12.01% return generated by its industry. Though GMI’s recent performance is underwhelming, it is useful to understand what ROE is made up of and how it should be interpreted. Knowing these components can change your views on GMI’s below-average returns. Today I will look at how components such as financial leverage can influence ROE which may impact the sustainability of GMI’s returns. Check out our latest analysis for Groupe Minoteries

Breaking down Return on Equity

Firstly, Return on Equity, or ROE, is simply the percentage of last years’ earning against the book value of shareholders’ equity. For example, if the company invests CHF1 in the form of equity, it will generate CHF0.06 in earnings from this. Investors seeking to maximise their return in the Packaged Foods and Meats 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 Groupe Minoteries 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 measured against cost of equity in order to determine the efficiency of Groupe Minoteries’s equity capital deployed. Its cost of equity is 8.01%. Since Groupe Minoteries’s return does not cover its cost, with a difference of -2.19%, this means its current use of equity is not efficient and not sustainable. Very simply, Groupe Minoteries pays more 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:

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

SWX:GMI Last Perf Apr 10th 18
SWX:GMI Last Perf Apr 10th 18

Essentially, profit margin shows how much money the company makes after paying for all its expenses. Asset turnover shows how much revenue Groupe Minoteries can generate with its current asset base. The most interesting ratio, and reflective of sustainability of its ROE, is financial leverage. We can assess whether Groupe Minoteries is fuelling ROE by excessively raising debt. Ideally, Groupe Minoteries should have a balanced capital structure, which we can check by looking at the historic debt-to-equity ratio of the company. The most recent ratio is 9.26%, which is sensible and indicates Groupe Minoteries has not taken on too much leverage. Thus, we can conclude its below-average ROE may be a result of low debt, and Groupe Minoteries still has room to increase leverage and grow future returns.

SWX:GMI Historical Debt Apr 10th 18
SWX:GMI Historical Debt Apr 10th 18

Next Steps:

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. Groupe Minoteries’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 Groupe Minoteries’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 Groupe Minoteries, I’ve compiled three fundamental factors you should further research: