Aflac's (NYSE:AFL) stock is up by 3.9% over the past week. Given its impressive performance, we decided to study the company's key financial indicators as a company's long-term fundamentals usually dictate market outcomes. In this article, we decided to focus on Aflac'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.
How Do You Calculate Return On Equity?
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 Aflac is:
17% = US$5.8b ÷ US$34b (Based on the trailing twelve months to June 2021).
The 'return' is the profit over the last twelve months. That means that for every $1 worth of shareholders' equity, the company generated $0.17 in profit.
What Has ROE Got To Do With Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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.
Aflac's Earnings Growth And 17% ROE
At first glance, Aflac seems to have a decent ROE. Especially when compared to the industry average of 12% the company's ROE looks pretty impressive. This probably laid the ground for Aflac's moderate 11% net income growth seen over the past five years.
As a next step, we compared Aflac's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 13% in the same period.
Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. 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 Aflac is trading on a high P/E or a low P/E, relative to its industry.
Is Aflac Using Its Retained Earnings Effectively?
Aflac's three-year median payout ratio to shareholders is 24% (implying that it retains 76% of its income), which is on the lower side, so it seems like the management is reinvesting profits heavily to grow its business.
Moreover, Aflac is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 27%. However, Aflac's future ROE is expected to decline to 12% despite there being not much change anticipated in the company's payout ratio.
In total, we are pretty happy with Aflac's performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. Having said that, on studying current analyst estimates, we were concerned to see that while the company has grown its earnings in the past, analysts expect its earnings to shrink in the future. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.
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.
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