This article is intended for those of you who are at the beginning of your investing journey and want to start learning about core concepts of fundamental analysis on practical examples from today’s market.
With an ROE of 17.97%, TV Today Network Limited (NSE:TVTODAY) outpaced its own industry which delivered a less exciting 10.25% over the past year. Superficially, this looks great since we know that TVTODAY has generated big profits with little equity capital; however, ROE doesn’t tell us how much TVTODAY has borrowed in debt. Today, we’ll take a closer look at some factors like financial leverage to see how sustainable TVTODAY’s ROE is.
View our latest analysis for T.V. Today Network
Breaking down Return on Equity
Return on Equity (ROE) is a measure of T.V. Today Network’s profit relative to its shareholders’ equity. For example, if the company invests ₹1 in the form of equity, it will generate ₹0.18 in earnings from this. Generally speaking, a higher ROE is preferred; however, there are other factors we must also consider before making any conclusions.
Return on Equity = Net Profit ÷ Shareholders Equity
ROE is measured against cost of equity in order to determine the efficiency of T.V. Today Network’s equity capital deployed. Its cost of equity is 13.55%. Since T.V. Today Network’s return covers its cost in excess of 4.43%, its use of equity capital is efficient and likely to be sustainable. Simply put, T.V. Today Network 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:
Dupont Formula
ROE = profit margin × asset turnover × financial leverage
ROE = (annual net profit ÷ sales) × (sales ÷ assets) × (assets ÷ shareholders’ equity)
ROE = annual net profit ÷ shareholders’ equity
The first component is profit margin, which measures how much of sales is retained after the company pays for all its expenses. The other component, asset turnover, illustrates how much revenue T.V. Today Network can make from its asset base. The most interesting ratio, and reflective of sustainability of its ROE, is financial leverage. Since financial leverage can artificially inflate ROE, we need to look at how much debt T.V. Today Network currently has. Currently, T.V. Today Network has no debt which means its returns are driven purely by equity capital. Therefore, the level of financial leverage has no impact on ROE, and the ratio is a representative measure of the efficiency of all its capital employed firm-wide.