What is Really Driving Shake Shack, Inc. (NYSE: SHAK) ROE Of 0%?


Shake Shack, Inc. (NYSE: SHAK) generated a below average return on equity of 0.4% over the past twelve months, while the Consumer Discretionary sector returned 9.3%. Even though Carbonite’s performance is subpar relative to its peers, it’s useful to understand what’s really driving the company’s low ROE and how it’s trending. Understanding these components may change your views on Carbonite and its future prospects.

Carbonite’s Return On Equity

Return on equity represents the percentage return a company generates on the money shareholders have invested. Return on equity or ROE is defined as follows:

ROE = Net Income To Common / Average Total Common Equity

A higher return on equity suggests management is utilizing the capital invested by shareholders efficiently. However, it is important to note that ROE can be “manufactured” by management with the use of leverage or debt.

Carbonite’s historical ROE trends are highlighted in the chart below.

Carbonite's ROE Trends Chart

source: finbox.io data explorer – ROE

It appears that the return on equity of Carbonite has generally been increasing over the last few years. ROE increased from -10.3% to 6.9% in fiscal year 2016, decreased to -0.2% in 2017 and increased to 0.4% as of LTM Mar’18. So what’s causing the general improvement?

What’s Driving Carbonite’s Improving Return On Equity

The DuPont analysis is simply a separate way to calculate a company’s ROE:

ROE = Net Profit Margin * Asset Turnover * Equity Multiplier

Created by the DuPont Corporation in the 1920s, the analysis is a useful tool that helps determine what’s responsible for changes in a company’s ROE. It highlights that a firm’s ROE is affected by three things: profit margin, asset turnover, and its equity multiplier or financial leverage.

Analyzing changes in these three items over time allows investors to figure out if operating efficiency, asset use efficiency or the use of leverage is what’s causing changes in ROE. Strong companies should have ROE that is increasing because its net profit margin and/or asset turnover is increasing. On the other hand, a company may not be as strong as investors would otherwise think if ROE is increasing from the use of leverage or debt.

So let’s take a closer look at what’s driving Carbonite’s returns.

Carbonite’s Net Profit Margin

It appears that the net profit margin of Carbonite has generally been increasing over the last few years. Margins increased from -4.6% to 4.6% in fiscal year 2016, decreased to -0.1% in 2017 and increased to 0.2% as of LTM Mar’18.

SHAK Net Profit Margin Trends

source: data explorer – net profit margin

Therefore, the company’s increasing margins help explain, at least partially, why ROE is also increasing. Now let’s take a look at Carbonite’s efficiency performance to see if that is also boosting ROE.

Carbonite’s Asset Turnover

It appears that asset turnover of Carbonite has generally been increasing over the last few years. Turnover decreased from 0.82x to 0.59x in fiscal year 2016, increased to 0.71x in 2017 and increased again to 0.72x as of LTM Mar’18.

SHAK Asset Turnover Trends

source: data explorer – asset turnover

Therefore, the company’s increasing asset turnover ratio helps explain, at least in part, why ROE is also increasing.

Finally, the DuPont constituents that make up Carbonite’s ROE are shown in the table below. Note that the table also compares Carbonite to a peer group that includes Zoe’s Kitchen, Inc.(NYSE: ZOES), Chipotle Mexican Grill, Inc. (NYSE: CMG), McDonald’s Corporation (NYSE: MCD) and Restaurant Brands International Inc. (NYSE: QSR).

SHAK ROE Breakdown vs Peers Table - DuPont Analysis

source: finbox.io’s DuPont model

In conclusion, the DuPont analysis has helped us better understand that Carbonite’s general improvement in return on equity is the result of an improving net profit margin, an improving asset turnover ratio and declining leverage. Therefore when looking at the core operations of the business, Carbonite shareholders have reason to be excited due to the company’s general improvement in profitability along with a general improvement in operational efficiency and declining leverage.

The DuPont approach is a helpful tool when analyzing how well management is utilizing shareholder capital. However, it doesn’t necessarily tell the whole story. For example, how do the company’s ROE trends compare to its peers or sector? How about in absolute returns? I recommend that investors continue to research Carbonite to gain a better understanding of its fundamentals before making an investment decision.

As of this writing, I did not hold a position in any of the aforementioned securities and this is not a buy or sell recommendation on any security mentioned.

Expertise: financial technology, analyzing market trends. Brian is a founder at finbox.io, where he’s focused on building tools that make it faster and easier for investors to research stock fundamentals. Brian’s background is in physics & computer science and previously worked as a software engineer at GE Healthcare. He enjoys applying his expertise in technology to help find market trends that impact investors. Brian can be reached at brian@finbox.io or at +1 (516) 778-6257.

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