With An ROE Of 0.95%, Has Seneca Foods Corporation's (NASDAQ:SENE.A) Management Done Well?

Seneca Foods Corporation (NASDAQ:SENE.A) generated a below-average return on equity of 0.95% in the past 12 months, while its industry returned 11.97%. Though SENE.A'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 SENE.A's below-average returns. I will take you through how metrics such as financial leverage impact ROE which may affect the overall sustainability of SENE.A's returns. See our latest analysis for Seneca Foods

Breaking down ROE — the mother of all ratios

Return on Equity (ROE) weighs Seneca Foods’s profit against the level of its shareholders’ equity. An ROE of 0.95% implies $0.01 returned on every $1 invested, so the higher the return, the better. Investors that are diversifying their portfolio based on industry may want to maximise their return in the Packaged Foods and Meats sector by choosing 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 Seneca Foods, which is 12.31%. Since Seneca Foods’s return does not cover its cost, with a difference of -11.37%, this means its current use of equity is not efficient and not sustainable. Very simply, Seneca Foods 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:

Basically, profit margin measures how much of revenue trickles down into earnings which illustrates how efficient the business is with its cost management. The other component, asset turnover, illustrates how much revenue Seneca Foods 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. 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 Seneca Foods’s debt-to-equity ratio to examine sustainability of its returns. The ratio currently stands at a balanced 105.07%, meaning Seneca Foods has not taken on excessively disproportionate debt to drive its returns. The company is able to produce profit growth without a substantial debt burden.

Next Steps:

ROE is one of many ratios which meaningfully dissects financial statements, which illustrates the quality of a company. Seneca Foods’s below-industry ROE is disappointing, furthermore, its returns were not even high enough to cover its own cost of equity. 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. Although ROE can be a useful metric, it is only a small part of diligent research.

For Seneca Foods, I've compiled three important aspects you should further research:

• 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 Seneca Foods'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 Seneca Foods? 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.