Why Tech Data Corporation (NASDAQ: TECD) 5% ROE Should Have Investors Worried


Tech Data Corporation’s (NASDAQ: TECD) most recent return on equity was an above average 4.6% in comparison to the Information Technology sector which returned 3.0%. Though Carbonite’s performance over the past twelve months is impressive, it’s useful to understand how the company achieved its healthy ROE. Was it a result of profit margins, operating efficiency or maybe even leverage? Knowing these components may change your views on Carbonite and its future prospects.

ROE Trends Of Carbonite

Return on equity (ROE) is the amount of net income returned as a percentage of shareholders equity. It is calculated as follows:

ROE = Net Income To Common / Average Total Common Equity

ROE is a helpful metric that illustrates how effective the company is at turning the cash put into the business into gains or returns for investors. But it is important to note that ROE can be impacted by management’s financing decisions such as the deployment of leverage.

The return on equity of Carbonite is shown below.

Carbonite's ROE Trends Chart

source: finbox.io data explorer – ROE

Unfortunately for shareholders, Carbonite’s return on equity has decreased each year since 2016. ROE decreased from 13.4% to 9.3% in fiscal year 2017, decreased to 4.6% in 2018 and the LTM period is also its latest fiscal year. So what’s causing the steady decline?

Carbonite’s Declining ROE Trends

In addition to the formula previously discussed, there’s actually another way to calculate ROE. It’s often called the DuPont formula and is as follows:

Return on Equity = Net Profit Margin * Asset Turnover * Equity Multiplier

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 the drivers behind Carbonite’s returns.

Net Profit Margin

The net profit margin of Carbonite has generally been declining over the last few years. Margins decreased from 1.0% to 0.7% in fiscal year 2017, decreased to 0.3% in 2018 and the LTM period is also its latest fiscal year.

TECD Net Profit Margin Trends

source: data explorer – net profit margin

Therefore, the company’s decreasing margins help explain, at least partially, why ROE is also decreasing. Now let’s take a look at Carbonite’s efficiency performance.

Asset Turnover

Unfortunately for shareholders, Carbonite’s asset turnover has decreased each year since 2016. Turnover decreased from 4.22x to 3.67x in fiscal year 2017, decreased to 3.57x in 2018 and the LTM period is also its latest fiscal year.

TECD Asset Turnover Trends

source: data explorer – asset turnover

As a result, the company’s worsening asset turnover ratio helps explain, at least partially, why ROE continues to decline.

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 Arrow Electronics, Inc. (NYSE: ARW), Synnex Corporation (NYSE: SNX), Anixter International Inc. (NYSE: AXE) and ePlus inc. (NASDAQ: PLUS).

TECD 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 continuous fall in return on equity is the result of a worsening net profit margin, a declining asset turnover ratio and increasing leverage. Therefore when looking at the core operations of the business, Carbonite shareholders have reason to be concerned due to the company’s general decline in profitability along with deteriorating operational efficiency and increasing 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. If you have not done so already, I highly recommend that you complete your research on Carbonite by taking a look at the following:

Valuation Metrics: what is Carbonite’s short ratio and how does it compare to its publicly traded peers? It represents the percentage of total shares outstanding that is being shorted. View the short ratio here.

Risk Metrics: how much interest coverage does Carbonite have? This is a ratio used to assess a firm’s ability to pay interest expenses based on operating profits (EBIT). View the company’s interest coverage here.

Efficiency Metrics: fixed asset turnover is calculated by dividing revenue by average fixed assets. View Carbonite’s fixed asset turnover here.

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 modeling, mergers & acquisitions. Andy is also a founder at finbox.io, where he’s focused on building tools that make it faster and easier for investors to do investment research. Andy’s background is in investment banking where he led the analysis on over 50 board advisory engagements involving mergers and acquisitions, fairness opinions and solvency opinions. Some of his board advisory highlights: - Sears Holdings Corp.’s $620 mm spin-off via rights offering of Sears Outlet, Hometown Stores and Sears Hardware Stores. - Cerberus Capital Management’s $3.3 bn acquisition of SUPERVALU Inc.’s New Albertsons, Inc. assets. Andy can be reached at andy@finbox.io or at +1 (516) 778-6257.

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