It is hard to get excited after looking at Shenzhen Megmeet Electrical's (SZSE:002851) recent performance, when its stock has declined 5.7% over the past week. However, stock prices are usually driven by a company's financial performance over the long term, which in this case looks quite promising. Specifically, we decided to study Shenzhen Megmeet Electrical'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. Put another way, it reveals the company's success at turning shareholder investments into profits.

How To 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 Shenzhen Megmeet Electrical is:

13% = CN¥605m ÷ CN¥4.7b (Based on the trailing twelve months to March 2024).

The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each CN¥1 of shareholders' capital it has, the company made CN¥0.13 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. 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.

Shenzhen Megmeet Electrical's Earnings Growth And 13% ROE

At first glance, Shenzhen Megmeet Electrical seems to have a decent ROE. Especially when compared to the industry average of 6.9% the company's ROE looks pretty impressive. This certainly adds some context to Shenzhen Megmeet Electrical's decent 15% net income growth seen over the past five years.

As a next step, we compared Shenzhen Megmeet Electrical'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 12%.

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. What is 002851 worth today? The intrinsic value infographic in our free research report helps visualize whether 002851 is currently mispriced by the market.

Is Shenzhen Megmeet Electrical Making Efficient Use Of Its Profits?

In Shenzhen Megmeet Electrical's case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 19% (or a retention ratio of 81%), which suggests that the company is investing most of its profits to grow its business.

Moreover, Shenzhen Megmeet Electrical is determined to keep sharing its profits with shareholders which we infer from its long history of six years of paying a dividend.

Conclusion

On the whole, we feel that Shenzhen Megmeet Electrical's performance has been quite good. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com