The 8.2% ROE of Axalta Coating Systems Ltd. (NYSE: AXTA) above average?

Many investors are still learning the different metrics that can be useful when analyzing a stock. This article is for those who want to know more about return on equity (ROE). We will use ROE to review Axalta Coating Systems Ltd. (NYSE: AXTA), as a concrete example.

ROE or return on equity is a useful tool for evaluating how effectively a company can generate returns on the investment it has received from its shareholders. In other words, it is a profitability ratio that measures the rate of return on capital contributed by the company’s shareholders.

Discover our latest analysis for Axalta Coating Systems

How do you calculate return on equity?

the ROE formula is:

Return on equity = Net income (from continuing operations) ÷ Equity

So, based on the above formula, the ROE for Axalta Coating Systems is:

8.2% = $122 million ÷ $1.5 billion (based on trailing 12 months to December 2020).

“Yield” is the income the business has earned over the past year. One way to conceptualize this is that for every $1 of share capital it has, the firm has made a profit of $0.08.

Does Axalta Coating Systems have a good return on equity?

Perhaps the easiest way to assess a company’s ROE is to compare it to the industry average. The limitation of this approach is that some companies are very different from others, even within the same industrial classification. If you look at the image below, you can see that Axalta Coating Systems has an ROE similar to the chemical industry classification average (10%).

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It’s neither particularly good nor bad. Although the ROE is similar to that of the industry, we still need to perform further checks to see if the company’s ROE is being boosted by high debt levels. If a company takes on too much debt, it runs a higher risk of defaulting on interest payments. Our risk dashboardshould present the 3 risks that we have identified for Axalta Coating Systems.

The Importance of Debt to Return on Equity

Companies generally need to invest money to increase their profits. This money can come from issuing shares, retained earnings or debt. In the first two cases, the ROE will capture this use of capital to grow. In the latter case, debt used for growth will enhance returns, but will not affect total equity. So using debt can improve ROE, but with the added risk of stormy weather, metaphorically speaking.

Combination of Axalta Coating Systems’ debt and its return on equity of 8.2%

Axalta Coating Systems uses a high amount of debt to increase returns. Its debt to equity ratio is 2.63. Its ROE is quite low, even with the use of significant debt; this is not a good result, in our view. Debt brings additional risk, so it’s only really worth it when a business is generating decent returns.

Summary

Return on equity is useful for comparing the quality of different companies. A company that can earn a high return on equity without going into debt could be considered a high quality company. If two companies have the same ROE, I would generally prefer the one with less debt.

But ROE is only one piece of a larger puzzle, as high-quality companies often trade on high earnings multiples. It is important to consider other factors, such as future earnings growth and the amount of investment needed in the future. So I think it’s worth checking it out free analyst forecast report for the company.

Sure, you might find a fantastic investment by looking elsewhere. So take a look at this free list of interesting companies.

This Simply Wall St article is general in nature. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.

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