The Travelers Companies, Inc.'s (NYSE:TRV) Has Performed Well But Fundamentals Look Varied: Is There A Clear Direction For The Stock?

Travelers Companies' (NYSE:TRV) stock up by 8.4% over the past three months. However, we decided to study the company's mixed-bag of fundamentals to assess what this could mean for future share prices, as stock prices tend to be aligned with a company's long-term financial performance. Particularly, we will be paying attention to Travelers Companies' ROE today.

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.

Check out our latest analysis for Travelers Companies

How Do You 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 Travelers Companies is:

9.2% = US$2.7b ÷ US$29b (Based on the trailing twelve months to December 2020).

The 'return' is the income the business earned over the last year. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.09.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

Travelers Companies' Earnings Growth And 9.2% ROE

At first glance, Travelers Companies' ROE doesn't look very promising. However, given that the company's ROE is similar to the average industry ROE of 8.9%, we may spare it some thought. But then again, Travelers Companies' five year net income shrunk at a rate of 6.9%. Remember, the company's ROE is a bit low to begin with. Hence, this goes some way in explaining the shrinking earnings.

That being said, we compared Travelers Companies' performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 6.6% 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). Doing so will help them establish if the stock's future looks promising or ominous. Is TRV fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Travelers Companies Using Its Retained Earnings Effectively?

Despite having a normal three-year median payout ratio of 35% (where it is retaining 65% of its profits), Travelers Companies has seen a decline in earnings as we saw above. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

In addition, Travelers Companies 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 30%. Accordingly, forecasts suggest that Travelers Companies' future ROE will be 11% which is again, similar to the current ROE.

Conclusion

On the whole, we feel that the performance shown by Travelers Companies 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. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. 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.

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This article by Simply Wall St is general in nature. 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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