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Are AXIS Capital Holdings Limited's (NYSE:AXS) Mixed Financials The Reason For Its Gloomy Performance on The Stock Market?

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AXIS Capital Holdings (NYSE:AXS) has had a rough three months with its share price down 7.7%. It seems that the market might have completely ignored the positive aspects of the company's fundamentals and decided to weigh-in more on the negative aspects. Fundamentals usually dictate market outcomes so it makes sense to study the company's financials. Particularly, we will be paying attention to AXIS Capital Holdings' ROE today.

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.

View our latest analysis for AXIS Capital Holdings

How To 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 AXIS Capital Holdings is:

3.5% = US$181m ÷ US$5.2b (Based on the trailing twelve months to March 2021).

The 'return' refers to a company's earnings over the last year. So, this means that for every $1 of its shareholder's investments, the company generates a profit of $0.03.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.

AXIS Capital Holdings' Earnings Growth And 3.5% ROE

It is hard to argue that AXIS Capital Holdings' ROE is much good in and of itself. Even compared to the average industry ROE of 12%, the company's ROE is quite dismal. For this reason, AXIS Capital Holdings' five year net income decline of 35% is not surprising given its lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

That being said, we compared AXIS Capital Holdings' 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 11% in the same period.

past-earnings-growth
past-earnings-growth

Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. Is AXS fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is AXIS Capital Holdings Making Efficient Use Of Its Profits?

Looking at its three-year median payout ratio of 48% (or a retention ratio of 52%) which is pretty normal, AXIS Capital Holdings' declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Moreover, AXIS Capital Holdings has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 34% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 9.5%, over the same period.

Conclusion

Overall, we have mixed feelings about AXIS Capital Holdings. 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. 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.

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.

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