Does Great-West Lifeco Inc.'s (TSE:GWO) Weak Fundamentals Mean That The Stock Could Move In The Opposite Direction?
Great-West Lifeco's (TSE:GWO) stock up by 2.9% over the past week. Given that the markets usually pay for the long-term financial health of a company, we wonder if the current momentum in the share price will keep up, given that the company's financials don't look very promising. Specifically, we decided to study Great-West Lifeco's ROE in this article.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
See our latest analysis for Great-West Lifeco
How To 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 Great-West Lifeco is:
8.8% = CA$2.5b ÷ CA$29b (Based on the trailing twelve months to June 2023).
The 'return' is the yearly profit. That means that for every CA$1 worth of shareholders' equity, the company generated CA$0.09 in profit.
What Is The Relationship Between ROE And Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.
Great-West Lifeco's Earnings Growth And 8.8% ROE
At first glance, Great-West Lifeco's ROE doesn't look very promising. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 16%. Accordingly, Great-West Lifeco's low net income growth of 4.6% over the past five years can possibly be explained by the low ROE amongst other factors.
As a next step, we compared Great-West Lifeco's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 21% 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). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Great-West Lifeco is trading on a high P/E or a low P/E, relative to its industry.
Is Great-West Lifeco Efficiently Re-investing Its Profits?
Great-West Lifeco has a three-year median payout ratio of 54% (implying that it keeps only 46% of its profits), meaning that it pays out most of its profits to shareholders as dividends, and as a result, the company has seen low earnings growth.
Moreover, Great-West Lifeco 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 is expected to keep paying out approximately 51% of its profits over the next three years. Regardless, the future ROE for Great-West Lifeco is predicted to rise to 13% despite there being not much change expected in its payout ratio.
Conclusion
Overall, we would be extremely cautious before making any decision on Great-West Lifeco. Because the company is not reinvesting much into the business, and given the low ROE, it's not surprising to see the lack or absence of growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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.
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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.
