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Citizens Inc (NYSE:CIA): Can It Deliver A Superior ROE To The Industry?
Citizens Inc’s (NYSE:CIA) most recent return on equity was a substandard 2.34% relative to its industry performance of 9.48% over the past year. An investor may attribute an inferior ROE to a relatively inefficient performance, and whilst this can often be the case, knowing the nuts and bolts of the ROE calculation may change that perspective and give you a deeper insight into CIA's past performance. Metrics such as financial leverage can impact the level of ROE which in turn can affect the sustainability of CIA's returns. Let me show you what I mean by this. Check out our latest analysis for Citizens
What you must know about ROE
Return on Equity (ROE) is a measure of Citizens’s profit relative to its shareholders’ equity. An ROE of 2.34% implies $0.02 returned on every $1 invested, so the higher the return, the better. Investors that are diversifying their portfolio based on industry may want to maximise their return in the Life and Health Insurance sector by choosing the highest returning stock. However, this can be misleading as each firm has different costs of equity and debt levels i.e. the more debt Citizens has, the higher ROE is pumped up in the short term, at the expense of long term interest payment burden.
Return on Equity = Net Profit ÷ Shareholders Equity
ROE is measured against cost of equity in order to determine the efficiency of Citizens’s equity capital deployed. Its cost of equity is 8.49%. Given a discrepancy of -6.15% between return and cost, this indicated that Citizens may be paying more for its capital than what it’s generating in return. ROE can be dissected into three distinct ratios: net profit margin, asset turnover, and financial leverage. This is called the Dupont Formula:
Dupont Formula
ROE = profit margin × asset turnover × financial leverage
ROE = (annual net profit ÷ sales) × (sales ÷ assets) × (assets ÷ shareholders’ equity)
ROE = annual net profit ÷ shareholders’ equity
Basically, profit margin measures how much of revenue trickles down into earnings which illustrates how efficient the business is with its cost management. Asset turnover shows how much revenue Citizens can generate with its current asset base. The most interesting ratio, and reflective of sustainability of its ROE, is financial leverage. We can assess whether Citizens is fuelling ROE by excessively raising debt. Ideally, Citizens should have a balanced capital structure, which we can check by looking at the historic debt-to-equity ratio of the company. Currently, Citizens has no debt which means its returns are driven purely by equity capital. This could explain why Citizens's' ROE is lower than its industry peers, most of which may have some degree of debt in its business.
Next Steps:
While ROE is a relatively simple calculation, it can be broken down into different ratios, each telling a different story about the strengths and weaknesses of a company. Citizens exhibits a weak ROE against its peers, as well as insufficient levels to cover its own cost of equity this year. However, ROE is not likely to be inflated by excessive debt funding, giving shareholders more conviction in the sustainability of returns, which has headroom to increase further. ROE is a helpful signal, but it is definitely not sufficient on its own to make an investment decision.
For Citizens, there are three important aspects you should further research:
- 1. Financial Health: Does it have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
- 2. Future Earnings: How does Citizens's growth rate compare to its peers and the wider market? Dig deeper into the analyst consensus number for the upcoming years by interacting with our free analyst growth expectation chart.
- 3. Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Citizens? Explore our interactive list of stocks with large growth potential to get an idea of what else is out there you may be missing!
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Simply Wall St analyst Simply Wall St and Simply Wall St have no position in any of the companies mentioned. This article 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.
About NYSE:CIA
Citizens
Provides life insurance products in the United States and internationally.
Good value with adequate balance sheet.