Guizhou TyreLtd (SZSE:000589) has had a rough month with its share price down 15%. 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 Guizhou TyreLtd'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 Is ROE Calculated?

The formula for ROE is:

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

So, based on the above formula, the ROE for Guizhou TyreLtd is:

12% = CN¥954m ÷ CN¥7.6b (Based on the trailing twelve months to March 2024).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each CN¥1 of shareholders' capital it has, the company made CN¥0.12 in profit.

Why Is ROE Important For Earnings Growth?

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

Guizhou TyreLtd's Earnings Growth And 12% ROE

To begin with, Guizhou TyreLtd seems to have a respectable ROE. Especially when compared to the industry average of 8.1% the company's ROE looks pretty impressive. This probably laid the ground for Guizhou TyreLtd's significant 20% net income growth seen over the past five years. However, there could also be other causes behind 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 Guizhou TyreLtd'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 8.4%.

Earnings growth is a huge factor in stock valuation. It's important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Guizhou TyreLtd's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Guizhou TyreLtd Efficiently Re-investing Its Profits?

Guizhou TyreLtd's three-year median payout ratio is a pretty moderate 27%, meaning the company retains 73% of its income. By the looks of it, the dividend is well covered and Guizhou TyreLtd is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.

Moreover, Guizhou TyreLtd 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.

Summary

Overall, we are quite pleased with Guizhou TyreLtd's performance. 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. We also studied the latest analyst forecasts and found that the company's earnings growth is expected be similar to its current growth rate. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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