Is American Financial Group, Inc.'s (NYSE:AFG) Recent Performance Tethered To Its Attractive Financial Prospects?

Most readers would already know that American Financial Group's (NYSE:AFG) stock increased by 5.1% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Specifically, we decided to study American Financial Group'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for American Financial Group

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 American Financial Group is:

19% = US$895m ÷ US$4.7b (Based on the trailing twelve months to September 2024).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.19 in profit.

Why Is ROE Important For 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 American Financial Group's Earnings Growth And 19% ROE

To begin with, American Financial Group seems to have a respectable ROE. On comparing with the average industry ROE of 14% the company's ROE looks pretty remarkable. Probably as a result of this, American Financial Group was able to see a decent growth of 13% over the last five years.

We then performed a comparison between American Financial Group's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 12% in the same 5-year period.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is American Financial Group fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is American Financial Group Efficiently Re-investing Its Profits?

American Financial Group has a three-year median payout ratio of 25%, which implies that it retains the remaining 75% of its profits. This suggests that its dividend is well covered, and given the decent growth seen by the company, it looks like management is reinvesting its earnings efficiently.

Besides, American Financial 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 39% over the next three years. However, the company's ROE is not expected to change by much despite the higher expected payout ratio.

Summary

Overall, we are quite pleased with American Financial Group's performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.