Shanxi Xinghuacun Fen Wine FactoryLtd (SHSE:600809) has had a rough month with its share price down 16%. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Specifically, we decided to study Shanxi Xinghuacun Fen Wine FactoryLtd'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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.

How Do You 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 Shanxi Xinghuacun Fen Wine FactoryLtd is:

34% = CN¥12b ÷ CN¥35b (Based on the trailing twelve months to March 2024).

The 'return' is the profit over the last twelve months. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.34 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

A Side By Side comparison of Shanxi Xinghuacun Fen Wine FactoryLtd's Earnings Growth And 34% ROE

Firstly, we acknowledge that Shanxi Xinghuacun Fen Wine FactoryLtd has a significantly high ROE. Secondly, even when compared to the industry average of 16% the company's ROE is quite impressive. So, the substantial 38% net income growth seen by Shanxi Xinghuacun Fen Wine FactoryLtd over the past five years isn't overly surprising.

We then compared Shanxi Xinghuacun Fen Wine FactoryLtd's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 15% in the same 5-year period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. Is 600809 fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Shanxi Xinghuacun Fen Wine FactoryLtd Making Efficient Use Of Its Profits?

Shanxi Xinghuacun Fen Wine FactoryLtd has a three-year median payout ratio of 39% (where it is retaining 61% of its income) which is not too low or not too high. By the looks of it, the dividend is well covered and Shanxi Xinghuacun Fen Wine FactoryLtd is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.

Moreover, Shanxi Xinghuacun Fen Wine FactoryLtd is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 51% over the next three years. However, the company's ROE is not expected to change by much despite the higher expected payout ratio.

Conclusion

On the whole, we feel that Shanxi Xinghuacun Fen Wine FactoryLtd's performance has been quite good. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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.

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