Sherwin Williams (NYSE:SHW) scores well on just about every profitability measure. Some companies I’ve mentioned in the past are more profitable than Sherwin-Williams. For instance, Timberland (NYSE:TBL) scores much higher than SHW on just about every measure of profitability. The clearest difference between the two businesses is their pre-tax returns on non-cash assets (PTRONCA).
This is one of my favorite profitability measures. For the last five years, Timberland has consistently had a PTRONCA of 35 – 55%; Sherwin-Williams’ PTRONCA has been in the 12 – 16% range. This post isn’t intended to be a comparison between Timberland and Sherwin-Williams. I just want to introduce you to my preferred method of calculating return on assets, and Timberland is the obvious choice for a PTRONCA comparison. Very few businesses earn a pre-tax return on non-cash assets greater than 25%.
The easiest way to earn a very high pre-tax return on non-cash assets is to have very few tangible assets. Businesses with very high PTRONCAs can grow without retaining earnings. Generally, maintenance cap ex is minimal, and little investment is required beyond additions to working capital.
Sherwin-Williams’ pre-tax return on non-cash assets of 12-16% is very good. The company has not kept much cash on hand during the last few years, so SHW’s PTRONCA of 12-16% translates almost perfectly into the expected (traditional) ROA of 7.2 – 9.6%. I say “expected