Is the weakness in China Life Insurance Company Limited (HKG: 2628) stock a sign that the market may be wrong given its strong financial outlook?

It’s hard to be excited about the recent performance of China Life Insurance (HKG: 2628), as its stock is down 5.8% over the past three months. However, a closer look at the solid financial data could make you think again. Given that fundamentals tend to drive long-term market results, the company is well worth a look. In particular, we decided to examine China Life Insurance’s ROE in this article.

Return on equity, or ROE, is a key metric that is used to assess how efficiently a company’s management is using the company’s capital. Put simply, it is used to evaluate a company’s profitability in relation to its equity.

Check out our latest analysis for China Life Insurance

How do you calculate the return on equity?

The Formula for ROE is:

Return on Equity = Net Income (from continuing operations) ÷ Equity

So based on the above formula, the ROE for China Life Insurance is:

11% = CN ¥ 49b ÷ CN ¥ 424b (based on the last twelve months through September 2020).

The “return” is the profit for the past twelve months. This means that for every HK $ 1 worth of equity, the company made a profit of HK $ 0.11.

Why is ROE important to earnings growth?

So far we have learned that ROE is a measure of a company’s profitability. Depending on how much of those profits the company reinvests or “retains” and how effectively this is done, we can then assess a company’s earnings growth potential. Assuming all else is equal, companies with a higher return on equity and higher profit retention typically have a higher growth rate than companies with different characteristics.

China Life Insurance earnings growth and 11% ROE

At first glance, Chinese life insurance appears to have a reasonable ROE. In addition, the company’s ROE is equal to the industry average of 9.6%. This probably explains, among other things, China Life Insurance’s moderate growth of 16% over the past five years.

Then, we compared China Life Insurance’s net profit growth to the industry, and we are pleased that the company’s growth is higher compared to the industry with a growth rate of 8.2% over the same period.

SEHK: 2628 past earnings growth December 21, 2020

The foundation of a company’s value creation is largely tied to profit growth. The investor should seek to determine whether expected growth or decline in earnings, as the case may be, is factored in. This then helps him determine whether the stock is placed for a bright or bleak future. A good indicator of expected earnings growth is P / E ratio, which determines the price the market is willing to pay for a stock based on its earnings outlook. So you might want to check if China Life Insurance is trading at high or low P / E ratios relative to its industry.

Is Chinese Life Insurance Using Its Profits Efficiently?

China Life Insurance has an average three-year payout ratio of 35%, which means the remaining 65% of its profits are withheld. This suggests that the dividend is well covered. Given the company’s decent growth, it looks like management is efficiently reinvesting its profits.

In addition, China Life Insurance is determined to continue to share its profits with shareholders, which we deduce from its long history of paying dividends for at least ten years. When examining consensus data from the latest analysts, we found that the company is expected to continue paying out around 36% of its earnings over the next three years. Accordingly, forecasts suggest that China Life Insurance’s future ROE will be 13%, which in turn is similar to the current ROE.

Summary

Overall, we are very satisfied with the performance of China Life Insurance. In particular, it’s nice to see that the company has invested heavily in its business and, along with a high rate of return, has resulted in significant earnings growth. However, the company’s earnings growth is expected to slow, as forecast in the latest analyst estimates. For more information on the latest analyst forecast for the company, see this visualization of the analyst forecast for the company.

Funded
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This article from Simply Wall St is of a general nature. It is not a recommendation to buy or sell stocks and does not take into account your goals or your financial situation. We want to provide you with a long-term, focused analysis based on fundamental data. Note that our analysis may not take into account the latest price sensitive company announcements or quality materials. Simply Wall St has no position in the stocks mentioned.
* Interactive brokers have been rated as Lowest Cost Brokers by StockBrokers.com. Annual online review 2020

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