Most readers would already be aware that Yinchuan Weili Transmission Technology's (SZSE:300904) stock increased significantly by 70% over the past month. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Specifically, we decided to study Yinchuan Weili Transmission Technology's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. Put another way, it reveals the company's success at turning shareholder investments into profits.

How To Calculate Return On Equity?

The formula for return on equity is:

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

So, based on the above formula, the ROE for Yinchuan Weili Transmission Technology is:

5.8% = CN¥48m ÷ CN¥826m (Based on the trailing twelve months to September 2023).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each CN¥1 of shareholders' capital it has, the company made CN¥0.06 in profit.

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

A Side By Side comparison of Yinchuan Weili Transmission Technology's Earnings Growth And 5.8% ROE

At first glance, Yinchuan Weili Transmission Technology's ROE doesn't look very promising. However, given that the company's ROE is similar to the average industry ROE of 7.1%, we may spare it some thought. Moreover, we are quite pleased to see that Yinchuan Weili Transmission Technology's net income grew significantly at a rate of 37% over the last five years. Considering the moderately low ROE, it is quite possible that there might be some other aspects that are positively influencing the company's earnings growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

Next, on comparing with the industry net income growth, we found that Yinchuan Weili Transmission Technology's growth is quite high when compared to the industry average growth of 14% in the same period, which is great to see.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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 Yinchuan Weili Transmission Technology is trading on a high P/E or a low P/E, relative to its industry.

Is Yinchuan Weili Transmission Technology Making Efficient Use Of Its Profits?

Yinchuan Weili Transmission Technology has a really low three-year median payout ratio of 21%, meaning that it has the remaining 79% left over to reinvest into its business. So it looks like Yinchuan Weili Transmission Technology is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Conclusion

In total, it does look like Yinchuan Weili Transmission Technology has some positive aspects to its business. Despite its low rate of return, the fact that the company reinvests a very high portion of its profits into its business, no doubt contributed to its high earnings growth. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. To know the 3 risks we have identified for Yinchuan Weili Transmission Technology visit our risks dashboard for free.

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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.