Clenergy Technology's (SHSE:603628) stock is up by a considerable 80% over the past three months. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. In this article, we decided to focus on Clenergy Technology's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

How Is ROE Calculated?

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 Clenergy Technology is:

15% = CN¥186m ÷ CN¥1.2b (Based on the trailing twelve months to September 2023).

The 'return' is the yearly profit. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.15.

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. 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. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Clenergy Technology's Earnings Growth And 15% ROE

To begin with, Clenergy Technology seems to have a respectable ROE. On comparing with the average industry ROE of 7.1% the company's ROE looks pretty remarkable. This probably laid the ground for Clenergy Technology's significant 50% net income growth seen over the past five years. However, there could also be other causes behind this growth. Such as - high earnings retention or an efficient management in place.

As a next step, we compared Clenergy Technology's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 14%.

Earnings growth is a huge factor in stock valuation. 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 Clenergy Technology is trading on a high P/E or a low P/E, relative to its industry.

Is Clenergy Technology Efficiently Re-investing Its Profits?

Clenergy Technology's ' three-year median payout ratio is on the lower side at 19% implying that it is retaining a higher percentage (81%) of its profits. So it looks like Clenergy Technology is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Additionally, Clenergy Technology has paid dividends over a period of seven years which means that the company is pretty serious about sharing its profits with shareholders.

Summary

On the whole, we feel that Clenergy Technology's performance has been quite good. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Not to forget, share price outcomes are also dependent on the potential risks a company may face. So it is important for investors to be aware of the risks involved in the business. Our risks dashboard will have the 1 risk we have identified for Clenergy Technology.

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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.