Shanghai Jin Jiang International Hotels' (SHSE:900934) stock up by 3.2% over the past week. However, in this article, we decided to focus on its weak financials, as long-term fundamentals ultimately dictate market outcomes. In this article, we decided to focus on Shanghai Jin Jiang International Hotels' ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for Shanghai Jin Jiang International Hotels

How Do You Calculate Return On Equity?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Shanghai Jin Jiang International Hotels is:

1.1% = CN¥190m ÷ CN¥17b (Based on the trailing twelve months to September 2022).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.01 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don't share these attributes.

Shanghai Jin Jiang International Hotels' Earnings Growth And 1.1% ROE

As you can see, Shanghai Jin Jiang International Hotels' ROE looks pretty weak. Even compared to the average industry ROE of 5.1%, the company's ROE is quite dismal. For this reason, Shanghai Jin Jiang International Hotels' five year net income decline of 42% 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.

Next, when we compared with the industry, which has shrunk its earnings at a rate of 8.9% in the same period, we still found Shanghai Jin Jiang International Hotels' performance to be quite bleak, because the company has been shrinking its earnings faster than the industry.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. 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 Shanghai Jin Jiang International Hotels is trading on a high P/E or a low P/E, relative to its industry.

Is Shanghai Jin Jiang International Hotels Using Its Retained Earnings Effectively?

With a high three-year median payout ratio of 53% (implying that 47% of the profits are retained), most of Shanghai Jin Jiang International Hotels' profits are being paid to shareholders, which explains the company's shrinking earnings. The business is only left with a small pool of capital to reinvest - A vicious cycle that doesn't benefit the company in the long-run. You can see the 2 risks we have identified for Shanghai Jin Jiang International Hotels by visiting our risks dashboard for free on our platform here.

Moreover, Shanghai Jin Jiang International Hotels 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.

Conclusion

In total, we would have a hard think before deciding on any investment action concerning Shanghai Jin Jiang International Hotels. The company has seen a lack of earnings growth as a result of retaining very little profits and whatever little it does retain, is being reinvested at a very low rate of return. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. 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. 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.