Precinct Properties New Zealand Limited (NZE:PCT) Delivered A Better ROE Than The Industry, Here’s Why

Precinct Properties New Zealand Limited (NZSE:PCT) delivered an ROE of 9.45% over the past 12 months, which is relatively in-line with its industry average of 8.75% during the same period. However, whether this ROE is actually impressive depends on if it can be maintained. A measure of sustainable returns is PCT’s financial leverage. If PCT 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 Precinct Properties New Zealand

Breaking down Return on Equity

Return on Equity (ROE) weighs Precinct Properties New Zealand’s profit against the level of its shareholders’ equity. An ROE of 9.45% implies NZ$0.09 returned on every NZ$1 invested, so the higher the return, the better. If investors diversify their portfolio by industry, they may want to maximise their return in the Office REITs sector by investing in the highest returning stock. But this can be misleading as each company has different costs of equity and also varying debt levels, which could artificially push up ROE whilst accumulating high interest expense.

ROE is measured against cost of equity in order to determine the efficiency of Precinct Properties New Zealand’s equity capital deployed. Its cost of equity is 8.55%. Since Precinct Properties New Zealand’s return covers its cost in excess of 0.90%, its use of equity capital is efficient and likely to be sustainable. Simply put, Precinct Properties New Zealand 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:

Essentially, profit margin shows how much money the company makes after paying for all its expenses. The other component, asset turnover, illustrates how much revenue Precinct Properties New Zealand can make from its 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. We can assess whether Precinct Properties New Zealand is fuelling ROE by excessively raising debt. Ideally, Precinct Properties New Zealand 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 42.69%, which is sensible and indicates Precinct Properties New Zealand has not taken on too much leverage. Thus, we can conclude its above-average ROE is generated from its capacity to increase profit without a large debt burden.

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. Precinct Properties New Zealand’s above-industry ROE is encouraging, and is also in excess of 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 Precinct Properties New Zealand, I've put together three relevant factors you should look at:

• 1. 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.
• 2. Valuation: What is Precinct Properties New Zealand 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 Precinct Properties New Zealand is currently mispriced by the market.
• 3. Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Precinct Properties New Zealand? Explore our interactive list of stocks with large growth potential to get an idea of what else is out there you may be missing!

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Simply Wall St analyst Simply Wall St and Simply Wall St have no position in any of the companies mentioned. This article is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.