Is Porto Seguro S.A.'s (BVMF:PSSA3) Stock Price Struggling As A Result Of Its Mixed Financials?

It is hard to get excited after looking at Porto Seguro's (BVMF:PSSA3) recent performance, when its stock has declined 6.8% over the past three months. It is possible that the markets have ignored the company's differing financials and decided to lean-in to the negative sentiment. Stock prices are usually driven by a company’s financial performance over the long term, and therefore we decided to pay more attention to the company's financial performance. Specifically, we decided to study Porto Seguro's ROE in this article.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Porto Seguro

How To Calculate Return On Equity?

ROE 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 Porto Seguro is:

11% = R$1.2b ÷ R$11b (Based on the trailing twelve months to December 2022).

The 'return' is the yearly profit. So, this means that for every R$1 of its shareholder's investments, the company generates a profit of R$0.11.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.

Porto Seguro's Earnings Growth And 11% ROE

It is quite clear that Porto Seguro's ROE is rather low. An industry comparison shows that the company's ROE is not much different from the industry average of 11% either. Thus, the low ROE provides some context to Porto Seguro's flat net income growth over the past five years.

Next, on comparing with the industry net income growth, we found that Porto Seguro's reported growth was lower than the industry growth of 3.4% in the same period, which is not something we like 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. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Porto Seguro's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Porto Seguro Using Its Retained Earnings Effectively?

In spite of a normal three-year median payout ratio of 47% (or a retention ratio of 53%), Porto Seguro hasn't seen much growth in its earnings. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

In addition, Porto Seguro has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 52%. However, Porto Seguro's ROE is predicted to rise to 18% despite there being no anticipated change in its payout ratio.

Summary

On the whole, we feel that the performance shown by Porto Seguro can be open to many interpretations. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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.