Shenzhen MTC's (SZSE:002429) stock is up by a considerable 7.7% over the past week. However, we wonder if the company's inconsistent financials would have any adverse impact on the current share price momentum. Specifically, we decided to study Shenzhen MTC's ROE in this article.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Shenzhen MTC

How Is ROE Calculated?

The formula for ROE is:

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

So, based on the above formula, the ROE for Shenzhen MTC is:

11% = CN¥1.6b ÷ CN¥15b (Based on the trailing twelve months to September 2023).

The 'return' is the income the business earned over the last year. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.11 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. 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. 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.

Shenzhen MTC's Earnings Growth And 11% ROE

On the face of it, Shenzhen MTC's ROE is not much to talk about. Yet, a closer study shows that the company's ROE is similar to the industry average of 11%. Having said that, Shenzhen MTC has shown a meagre net income growth of 5.0% over the past five years. Remember, the company's ROE is not particularly great to begin with. Hence, this does provide some context to low earnings growth seen by the company.

As a next step, we compared Shenzhen MTC'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 8.1% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. 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 Shenzhen MTC is trading on a high P/E or a low P/E, relative to its industry.

Is Shenzhen MTC Using Its Retained Earnings Effectively?

Despite having a moderate three-year median payout ratio of 27% (implying that the company retains the remaining 73% of its income), Shenzhen MTC's earnings growth was quite low. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Additionally, Shenzhen MTC has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.

Conclusion

Overall, we have mixed feelings about Shenzhen MTC. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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.