Why Asia Pacific Wire & Cable Corporation Limited (NASDAQ:APWC) Delivered An Inferior ROE Compared To The Industry

Asia Pacific Wire & Cable Corporation Limited (NASDAQ:APWC) delivered a less impressive 2.75% ROE over the past year, compared to the 12.79% return generated by its industry. 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 APWC's past performance. Today I will look at how components such as financial leverage can influence ROE which may impact the sustainability of APWC's returns. View our latest analysis for Asia Pacific Wire & Cable

Peeling the layers of ROE – trisecting a company’s profitability

Return on Equity (ROE) is a measure of Asia Pacific Wire & Cable’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 Electrical Components and Equipment 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 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 Asia Pacific Wire & Cable, which is 15.96%. Given a discrepancy of -13.21% between return and cost, this indicated that Asia Pacific Wire & Cable may be paying more for its capital than what it’s generating in return. ROE can be broken down into three different 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. Asset turnover shows how much revenue Asia Pacific Wire & Cable 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 Asia Pacific Wire & Cable is fuelling ROE by excessively raising debt. Ideally, Asia Pacific Wire & Cable 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 21.68%, which is sensible and indicates Asia Pacific Wire & Cable has not taken on too much leverage. Thus, we can conclude its below-average ROE may be a result of low debt, and Asia Pacific Wire & Cable still has room to increase leverage and grow future returns.

Why is ROE called the mother of all ratios

ROE is a relatively simple calculation, but it can be broken down into different ratios, each telling a different story about the strengths and weaknesses of a company. Asia Pacific Wire & Cable exhibits a weak ROE against its peers, as well as insufficient levels to cover its own cost of equity this year. However, ROE is not likely to be inflated by excessive debt funding, giving shareholders more conviction in the sustainability of returns, which has headroom to increase further. ROE is a helpful signal, but it is definitely not sufficient on its own to make an investment decision.

For Asia Pacific Wire & Cable, I've put together three fundamental 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. Future Earnings: How does Asia Pacific Wire & Cable'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.

3. Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Asia Pacific Wire & Cable? 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.