Can Installed Building Products (NYSE:IBP)’s ROE continue to exceed the industry average?

While some investors are well-versed in financial metrics (hat tip), this article is for those who want to learn about return on equity (ROE) and why it’s important. To keep the lesson grounded in practical application, we’ll use ROE to understand Installed Building Products, Inc. (NYSE:IBP) better.

Return on equity or ROE is an important factor for shareholders to consider because it tells them how effectively their capital is being reinvested. In short, ROE shows the profit each dollar generates in relation to shareholders’ investments.

View our latest analysis for Installed Building Products

How is return on equity calculated?

Return on equity can be calculated using the formula:

Return on equity = net profit (from continuing operations) ÷ shareholders’ equity

Therefore, based on the above formula, the ROE for Proven Building Products is:

43% = US$241 million ÷ US$561 million (Based on the trailing twelve months to June 2023).

“Return” is the profit over the last twelve months. This means that for every $1 of shareholder investment, the company makes a profit of $0.43.

Do proven building products have a good return on equity?

One simple way to determine if a company has a good return on equity is to compare it to the average for its industry. Importantly, this is not a perfect measure, because companies vary widely within the same industry classification. As can be seen from the image below, Proven Building Products has a better ROE than the average (16%) in the Consumer Durables industry.

NYSE:IBP return on equity on October 29, 2023

This is a good sign. However, keep in mind that a high ROE does not necessarily indicate efficient earnings. Aside from changes in net income, a high ROE can also be a result of higher debt compared to equity, which indicates risk. Our risk dashboard should contain the two risks we have identified for installed building products.

How does debt affect return on equity?

Almost all companies need money to invest in the business, to increase profits. Cash for investing can come from the previous year’s profits (retained earnings), issuing new shares, or borrowing. In the first and second cases, ROE will reflect this use of cash to invest in the business. In the latter case, the use of debt will improve returns, but will not change equity. In this way, the use of debt will boost ROE, even though the basic economics of the company remain the same.

Proven Building Products debt and return on equity of 43%

Proven Building Products uses a significant amount of debt to increase returns. The debt-to-equity ratio is 1.54. The ROE is quite impressive, but probably would have been lower without the use of debt. Investors should consider carefully how a company might perform if it were not able to borrow so easily, because credit markets change over time.

Conclusion

Return on equity is a useful indicator of a company’s ability to generate profits and return them to shareholders. A company that can achieve a high return on equity without debt can be considered a high-quality company. If two companies have the same ROE, I generally prefer the company with less debt.

But when a business is of high quality, the market often offers it at a price that reflects that. It is important to consider other factors, such as future earnings growth – and the amount of investment required going forward. So you might want to take a peek at this data-rich interactive graph of the company’s outlook.

naturally Proven Building Products may not be the best stock to buy. So you might want to see this free A group of other companies that have high return on equity and low debt.

Evaluation is complex, but we help simplify it.

Find out if Proven Building Products may be overvalued or undervalued by reviewing our comprehensive analysis, which includes Fair value estimates, risks and warnings, dividends, insider transactions and financial health.

View the free analysis

This article written by Simply Wall St is general in nature. We provide comments based on historical data and analyst forecasts only using 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 into account your objectives or financial situation. We aim to offer you focused, long-term analysis driven by fundamental data. Note that our analysis may not take into account the company’s most recent price-sensitive announcements or qualitative materials. Simply put, Wall St has no position in any of the stocks mentioned.

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