With An ROE Of 60.89%, Has US. Auto Parts Network Inc.'s (NASDAQ:PRTS) Management Done Well?

With an ROE of 60.89%, US. Auto Parts Network Inc. (NASDAQ:PRTS) outpaced its own industry which delivered a less exciting 13.28% over the past year. However, whether this above-industry ROE is actually impressive depends on if it can be maintained. This can be measured by looking at the company’s financial leverage. With more debt, PRTS can invest even more and earn more money, thus pushing up its returns. However, ROE only measures returns against equity, not debt. This can be distorted, so let’s take a look at it further. Check out our latest analysis for U.S. Auto Parts Network

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

Return on Equity (ROE) weighs U.S. Auto Parts Network’s profit against the level of its shareholders’ equity. An ROE of 60.89% implies $0.61 returned on every $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 Internet and Direct Marketing Retail sector by investing in 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 U.S. Auto Parts Network has, the higher ROE is pumped up in the short term, at the expense of long term interest payment burden.

ROE is measured against cost of equity in order to determine the efficiency of U.S. Auto Parts Network’s equity capital deployed. Its cost of equity is 14.27%. This means U.S. Auto Parts Network returns enough to cover its own cost of equity, with a buffer of 46.62%. This sustainable practice implies that the company pays less for its capital than what it generates 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 U.S. Auto Parts Network can generate with its current asset base. Finally, financial leverage will be our main focus today. It shows how much of assets are funded by equity and can show how sustainable the company’s capital structure is. We can determine if U.S. Auto Parts Network’s ROE is inflated by borrowing high levels of debt. Generally, a balanced capital structure means its returns will be sustainable over the long run. We can examine this by looking at U.S. Auto Parts Network’s debt-to-equity ratio. Currently the ratio stands at 24.16%, which is very low. This means U.S. Auto Parts Network has not taken on leverage, and its above-average ROE is driven by its ability to grow its profit without a huge debt burden.

Next Steps:

ROE is one of many ratios which meaningfully dissects financial statements, which illustrates the quality of a company. U.S. Auto Parts Network’s above-industry ROE is encouraging, and is also in excess of its cost of equity. ROE is not likely to be inflated by excessive debt funding, giving shareholders more conviction in the sustainability of high returns. ROE is a helpful signal, but it is definitely not sufficient on its own to make an investment decision.

For U.S. Auto Parts Network, I've compiled 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. Valuation: What is U.S. Auto Parts Network 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 U.S. Auto Parts Network is currently mispriced by the market.
3. Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of U.S. Auto Parts Network? 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.