QBE Insurance Group Limited’s (ASX:QBE) Dismal Stock Performance Reflects Weak Fundamentals

QBE Insurance Group (ASX:QBE) has had a rough week with its share price down 1.6%. To decide if this trend could continue, we decided to look at its weak fundamentals as they shape the long-term market trends. In this article, we decided to focus on QBE Insurance Group’s ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company’s management is utilizing the company’s capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for QBE Insurance Group

How Is ROE Calculated?

The formula for return on equity is:

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

So, based on the above formula, the ROE for QBE Insurance Group is:

7.0% = US$568m ÷ US$8.2b (Based on the trailing twelve months to December 2019).

The ‘return’ is the yearly profit. That means that for every A$1 worth of shareholders’ equity, the company generated A$0.07 in profit.

What Is The Relationship Between ROE And Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company’s future earnings. Based on how much of its profits the company chooses to reinvest or “retain”, we are then able to evaluate a company’s future ability to generate profits. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

A Side By Side comparison of QBE Insurance Group’s Earnings Growth And 7.0% ROE

When you first look at it, QBE Insurance Group’s ROE doesn’t look that attractive. Next, when compared to the average industry ROE of 13%, the company’s ROE leaves us feeling even less enthusiastic. Therefore, it might not be wrong to say that the five year net income decline of 22% seen by QBE Insurance Group was probably the result of it having a lower ROE. We believe that there also might be other aspects that are negatively influencing the company’s earnings prospects. Such as – low earnings retention or poor allocation of capital.

However, when we compared QBE Insurance Group’s growth with the industry we found that while the company’s earnings have been shrinking, the industry has seen an earnings growth of 6.8% in the same period. This is quite worrisome.

ASX:QBE Past Earnings Growth July 1st 2020
ASX:QBE Past Earnings Growth July 1st 2020

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company’s expected earnings growth (or decline). Doing so will help them establish if the stock’s future looks promising or ominous. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if QBE Insurance Group is trading on a high P/E or a low P/E, relative to its industry.

Is QBE Insurance Group Efficiently Re-investing Its Profits?

QBE Insurance Group’s declining earnings is not surprising given how the company is spending most of its profits in paying dividends, judging by its three-year median payout ratio of 61% (or a retention ratio of 39%). The business is only left with a small pool of capital to reinvest – A vicious cycle that doesn’t benefit the company in the long-run. Our risks dashboard should have the 2 risks we have identified for QBE Insurance Group.

Moreover, QBE Insurance Group has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 66%. However, QBE Insurance Group’s ROE is predicted to rise to 8.9% despite there being no anticipated change in its payout ratio.

Summary

On the whole, QBE Insurance Group’s performance is quite a big let-down. As a result of its low ROE and lack of mich reinvestment into the business, the company has seen a disappointing earnings growth rate. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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This article by Simply Wall St is general in nature. 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.
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