A closer look at the impressive ROE of Ping An Insurance (Group) Company of China, Ltd. (HKG:2318)

By William S. Archambault Last updated Jan 17, 2022

One of the best investments we can make is in our own knowledge and skills. With that in mind, this article will explain how we can use return on equity (ROE) to better understand a business. To keep the lesson grounded in practicality, we will use ROE to better understand Ping An Insurance (Group) Company of China, Ltd. (HKG:2318).

ROE or return on equity is a useful tool for evaluating how effectively a company can generate returns on the investment it has received from its shareholders. In other words, it is a profitability ratio that measures the rate of return on capital contributed by the company’s shareholders.

Check out our latest analysis for Ping An Insurance (Group) Company of China

How is ROE calculated?

ROE can be calculated using the formula:

Return on equity = Net income (from continuing operations) ÷ Equity

So, based on the above formula, the ROE for Ping An Insurance (Group) Company of China is:

14% = CN¥142b ÷ CN¥1.0t (Based on past twelve months to September 2021).

The “yield” is the amount earned after tax over the last twelve months. One way to conceptualize this is that for every HK$1 of share capital it has, the company has made a profit of HK$0.14.

Does Ping An Insurance (Group) Company of China have good ROE?

A simple way to determine if a company has a good return on equity is to compare it to the average for its industry. The limitation of this approach is that some companies are very different from others, even within the same industrial classification. As you can see in the chart below, Ping An Insurance (Group) Company of China has an above-average ROE (11%) for the insurance industry.

SEHK:2318 Return on Equity January 17, 2022

This is clearly a positive point. Keep in mind that a high ROE does not always mean superior financial performance. Besides changes in net income, a high ROE can also be the result of high debt to equity, which indicates risk. To know the 2 risks we have identified for Ping An Insurance (Group) Company of China, visit our risk dashboard for free.

The Importance of Debt to Return on Equity

Virtually all businesses need money to invest in the business, to increase their profits. This money can come from retained earnings, issuing new stock (shares), or debt. In the first two cases, the ROE will capture this use of capital to grow. In the latter case, the use of debt will improve returns, but will not change equity. So using debt can improve ROE, but with the added risk of stormy weather, metaphorically speaking.

Combination of Chinese debt of Ping An Insurance (Group) and its return on equity of 14%

Of note is the high reliance on debt by Ping An Insurance (Group) Company of China, resulting in a debt-to-equity ratio of 2.00. There’s no doubt that its ROE is decent, but the company’s sky-high debt isn’t too exciting to see. Debt brings additional risk, so it’s only really worth it when a business is generating decent returns.

Conclusion

Return on equity is a useful indicator of a company’s ability to generate profits and return them to shareholders. A company that can earn a high return on equity without going into debt could be considered a high quality company. All things being equal, a higher ROE is better.

But ROE is only one piece of a larger puzzle, as high-quality companies often trade on high earnings multiples. It is important to consider other factors, such as future earnings growth and the amount of investment needed in the future. So I think it’s worth checking it out free analyst forecast report for the company.

If you’d rather check out another company – one with potentially superior finances – then don’t miss this free list of attractive companies, which have a high return on equity and low debt.

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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.