The Scotts Miracle-Gro Company (NYSE:SMG) Delivered A Better ROE Than Its Industry




  • In Business
  • 2022-07-04 11:10:18Z
  • By Simply Wall St.
 

While some investors are already well versed in financial metrics (hat tip), this article is for those who would like to learn about Return On Equity (ROE) and why it is important. We'll use ROE to examine The Scotts Miracle-Gro Company (NYSE:SMG), by way of a worked example.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Scotts Miracle-Gro

How Do You Calculate Return On Equity?

Return on equity can be calculated by using the formula:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Scotts Miracle-Gro is:

42% = US$408m ÷ US$975m (Based on the trailing twelve months to April 2022).

The 'return' is the yearly profit. That means that for every $1 worth of shareholders' equity, the company generated $0.42 in profit.

Does Scotts Miracle-Gro Have A Good ROE?

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 far from a perfect measure, because companies differ significantly within the same industry classification. Pleasingly, Scotts Miracle-Gro has a superior ROE than the average (17%) in the Chemicals industry.

That's what we like to see. With that said, a high ROE doesn't always indicate high profitability. Aside from changes in net income, a high ROE can also be the outcome of high debt relative to equity, which indicates risk. Our risks dashboardshould have the 4 risks we have identified for Scotts Miracle-Gro.

How Does Debt Impact Return On Equity?

Companies usually need to invest money to grow their profits. That cash can come from retained earnings, issuing new shares (equity), or debt. In the first two cases, the ROE will capture this use of capital to grow. In the latter case, the debt required for growth will boost returns, but will not impact the shareholders' equity. That will make the ROE look better than if no debt was used.

Combining Scotts Miracle-Gro's Debt And Its 42% Return On Equity

It appears that Scotts Miracle-Gro makes extensive use of debt to improve its returns, because it has an alarmingly high debt to equity ratio of 3.88. Its ROE is clearly quite good, but it seems to be boosted by the significant use of debt by the company.

Conclusion

Return on equity is one way we can compare its business quality of different companies. A company that can achieve a high return on equity without debt could be considered a high quality business. If two companies have around the same level of debt to equity, and one has a higher ROE, I'd generally prefer the one with higher ROE.

But ROE is just one piece of a bigger puzzle, since high quality businesses often trade on high multiples of earnings. It is important to consider other factors, such as future profit growth -- and how much investment is required going forward. So I think it may be worth checking this free report on analyst forecasts for the company.

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

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

This article by Simply Wall St 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. Simply Wall St has no position in any stocks mentioned.

COMMENTS

More Related News

Is Investors Title Company
Is Investors Title Company's (NASDAQ:ITIC) Recent Stock Performance Tethered To Its Strong Fundamentals?

Investors Title (NASDAQ:ITIC) has had a great run on the share market with its stock up by a significant 18% over the...

Are Socket Mobile, Inc.
Are Socket Mobile, Inc.'s (NASDAQ:SCKT) Fundamentals Good Enough to Warrant Buying Given The Stock's Recent Weakness?

Socket Mobile (NASDAQ:SCKT) has had a rough month with its share price down 7.4%. However, the company's fundamentals...

Do Its Financials Have Any Role To Play In Driving Aeeris Limited
Do Its Financials Have Any Role To Play In Driving Aeeris Limited's (ASX:AER) Stock Up Recently?

Aeeris (ASX:AER) has had a great run on the share market with its stock up by a significant 9.1% over the last month...

What 3M Company
What 3M Company's (NYSE:MMM) ROE Can Tell Us

One of the best investments we can make is in our own knowledge and skill set. With that in mind, this article will...

The Sage Group plc
The Sage Group plc's (LON:SGE) Stock Is Going Strong: Have Financials A Role To Play?

Most readers would already be aware that Sage Group's (LON:SGE) stock increased significantly by 13% over the past...

Leave a Comment

Your email address will not be published. Required fields are marked with *

Cancel reply

Comments

Top News: Business