Many investors are still educating themselves about the various metrics that can be useful when analyzing a stock. This article is for those who want to learn more about return on equity (ROE). To keep the lesson practical, we will use ROE to better understand JinkoSolar Holding Co., Ltd. (NYSE: JKS).
Return on equity or ROE is a test of how effectively a company increases its value and manages investor money. In short, the ROE shows the profit that each dollar generates compared to the investments of its shareholders.
See our latest analysis for JinkoSolar Holding
How is the ROE calculated?
the formula for ROE is:
Return on equity = Net income (from continuing operations) ÷ Equity
Thus, based on the above formula, the ROE of JinkoSolar Holding is:
1.9% = CN ¥ 269m ÷ CN ¥ 14b (Based on the last twelve months up to September 2021).
The “return” is the income the business has earned over the past year. Another way to look at this is that for every dollar in equity, the company was able to make $ 0.02 in profit.
Does JinkoSolar Holding have a good return on equity?
By comparing a company’s ROE with its industry average, we can get a quick measure of its quality. However, this method is only useful as a rough check, as companies differ a lot within a single industry classification. As shown in the graph below, JinkoSolar Holding has a lower than average ROE (16%) for the semiconductor industry classification.
Unfortunately, this is suboptimal. However, we believe that a lower ROE could still mean that a company has the opportunity to improve its returns through the use of leverage, provided its existing leverage levels are low. A business with high debt levels and low ROE is a combination we like to avoid given the risk involved. To know the 3 risks that we have identified for JinkoSolar Holding, visit our free risk dashboard.
What is the impact of debt on return on equity?
Businesses generally need to invest money to increase their profits. The money for the investment can come from the profits of the previous year (retained earnings), from the issuance of new shares or from loans. In the first and second cases, the ROE will reflect this use of cash for investing in the business. In the latter case, the use of debt will improve returns, but will not affect equity. This will make the ROE better than if no debt was used.
JinkoSolar Holding’s debt and its ROE of 1.9%
JinkoSolar Holding uses a large amount of debt to increase returns. Its debt to equity ratio is 2.30. Its ROE is quite low, even with significant recourse to debt; this is not a good result, in our opinion. Investors should think carefully about how a business will perform if it weren’t able to borrow so easily, as credit markets change over time.
Return on equity is useful for comparing the quality of different companies. Firms that can earn high returns on equity without taking on too much debt are generally of good quality. If two companies have the same ROE, I would generally prefer the one with the least amount of debt.
But ROE is only one piece of a bigger puzzle, as high-quality companies often trade at high earnings multiples. The rate at which earnings are likely to grow, relative to earnings growth expectations reflected in the current price, should also be taken into account. You might want to take a look at this data-rich interactive chart of the forecast for the business.
Sure, you might find a fantastic investment looking elsewhere. So take a look at this free list of interesting companies.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only 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 goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in any of the stocks mentioned.