Is Weakness In Insurance Australia Group Limited (ASX:IAG) Stock A Sign That The Market Could be Wrong Given Its Strong Financial Prospects?

With its stock down 4.5% over the past month, it is easy to disregard Insurance Australia Group (ASX:IAG). However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Specifically, we decided to study Insurance Australia Group's ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

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How Do You Calculate Return On Equity?

Return on equity can be calculated by using the formula:

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

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

20% = AU$1.5b ÷ AU$7.8b (Based on the trailing twelve months to June 2025).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every A$1 worth of equity, the company was able to earn A$0.20 in profit.

View our latest analysis for Insurance Australia Group

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Insurance Australia Group's Earnings Growth And 20% ROE

To begin with, Insurance Australia Group seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 15%. This probably laid the ground for Insurance Australia Group's significant 49% net income growth seen over the past five years. However, there could also be other causes behind this growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

Next, on comparing with the industry net income growth, we found that Insurance Australia Group's growth is quite high when compared to the industry average growth of 19% in the same period, which is great to see.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. What is IAG worth today? The intrinsic value infographic in our free research report helps visualize whether IAG is currently mispriced by the market.

Is Insurance Australia Group Using Its Retained Earnings Effectively?

The high three-year median payout ratio of 54% (implying that it keeps only 46% of profits) for Insurance Australia Group suggests that the company's growth wasn't really hampered despite it returning most of the earnings to its shareholders.

Besides, Insurance Australia Group has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 72% over the next three years. Consequently, the higher expected payout ratio explains the decline in the company's expected ROE (to 15%) over the same period.

Conclusion

In total, we are pretty happy with Insurance Australia Group's performance. Especially the high ROE, Which has contributed to the impressive growth seen in earnings. Despite the company reinvesting only a small portion of its profits, it still has managed to grow its earnings so that is appreciable. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink 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. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.