Most readers would already be aware that SMARTGEN (Zhengzhou) Technology's (SZSE:301361) stock increased significantly by 29% over the past three months. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. Specifically, we decided to study SMARTGEN (Zhengzhou) Technology's ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

How To Calculate Return On Equity?

ROE can be calculated by using the formula:

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

So, based on the above formula, the ROE for SMARTGEN (Zhengzhou) Technology is:

6.4% = CN¥70m ÷ CN¥1.1b (Based on the trailing twelve months to March 2024).

The 'return' refers to a company's earnings over the last year. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.06.

What Is The Relationship Between ROE And Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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. 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.

SMARTGEN (Zhengzhou) Technology's Earnings Growth And 6.4% ROE

When you first look at it, SMARTGEN (Zhengzhou) Technology's ROE doesn't look that attractive. Yet, a closer study shows that the company's ROE is similar to the industry average of 6.3%. On the other hand, SMARTGEN (Zhengzhou) Technology reported a moderate 8.6% net income growth over the past five years. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this 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.

As a next step, we compared SMARTGEN (Zhengzhou) 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 6.4%.

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. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about SMARTGEN (Zhengzhou) Technology's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is SMARTGEN (Zhengzhou) Technology Making Efficient Use Of Its Profits?

In SMARTGEN (Zhengzhou) Technology's case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 7.7% (or a retention ratio of 92%), which suggests that the company is investing most of its profits to grow its business.

Along with seeing a growth in earnings, SMARTGEN (Zhengzhou) Technology only recently started paying dividends. Its quite possible that the company was looking to impress its shareholders.

Summary

On the whole, we do feel that SMARTGEN (Zhengzhou) Technology has some positive attributes. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. 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 1 risk we have identified for SMARTGEN (Zhengzhou) 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.