Among the industries for U.S. companies, the auto industry contains several companies that have high returns on equity and high returns on assets. Two recreational vehicle companies, Polaris Industries Inc. (PII, Financial) and Thor Industries Inc. (THO, Financial), had historically increasing returns, suggesting that the recreational vehicle industry offers good value opportunities for investors.
Five different return ratios
The most commonly used return ratios are the return on equity (ROE), the return on assets (ROA) and the return on invested capital (ROIC). Additionally, the former two have a “tangible version”: the return on tangible assets (ROTA) and the return on tangible equity (ROTE). These five ratios measure the company’s efficiency at generating profits from one unit of shareholder equity, total assets and invested capital, respectively. Higher returns suggest more efficient business operations, which generally lead to high profit margins.
For companies trading on the New York Stock Exchange and the Nasdaq, the distribution of the median returns has a mean near 10%. Over 90% of the industries have a median return between 0% and 20%, and just two industries have severely negative returns.
Opportunities show up in high return industries
As discussed in the previous article, the investing score measures the potential for good investments within an industry based on certain financial information. This statistical study compares each of the returns to the historical median returns, and assigns a 1 if the current return outperforms the historical median return. After repeating this process for the average and median return ratios of each industry, the study adds the scores together to get the industry’s investing score. For this study, we also averaged the industry scores for margins and returns to get a “combined investing score.” Based on statistical analysis, the recreational vehicle industry has high potential for value and growth, since its median returns are in the top 2% among all industries.
The “High ROE ROA Screener” lists the companies that have a financial strength rank of at least 7 and an operating margin growth rate of 5%. Additionally, the screener lists only the companies among the 27 industries that had a combined investing score greater than 8. Based on backtesting results, the test portfolio generated an overall return of 114.32% using annual rebalancing. The test portfolio bought Polaris Industries January 2013 and Thor Industries January 2014.
Even though it has low cash to debt ratios, Polaris has expanding operating margins, high dividend yields and historically low valuation ratios. The Minnesota based vehicle company’s operating margin and return on equity outperform 84% and 96% of global recreational vehicle companies, respectively.
Thor, with a financial strength rank of 9, has a stronger business operation than does Polaris. The company has a Piotroski F-score of 7 and an Altman Z-score of 9.83, both suggesting that Thor Industries seldom faced bankruptcy risk. Thor has margins and returns near 10-year highs, albeit slightly lower than Polaris does.
As these companies have high value potential in the short term, several gurus increased their positions in these stocks. Steven Cohen (Trades, Portfolio) purchased 100,000 shares of Polaris at an average price of $88.64, while Jeremy Grantham (Trades, Portfolio) added 174,707 shares of Thor at an average price of $63.95. Grantham first invested in Thor during the third quarter of 2015 and has increased his position each quarter during the past year.
See also
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Disclosure: The author has no position in any of the stocks mentioned in the article.
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