Dongguan Tarry ElectronicsLtd's (SZSE:300976) stock is up by a considerable 17% over the past three months. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. In this article, we decided to focus on Dongguan Tarry ElectronicsLtd's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. Put another way, it reveals the company's success at turning shareholder investments into profits.

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 Dongguan Tarry ElectronicsLtd is:

3.0% = CN¥96m ÷ CN¥3.2b (Based on the trailing twelve months to March 2024).

The 'return' is the profit over the last twelve months. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.03.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. 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.

Dongguan Tarry ElectronicsLtd's Earnings Growth And 3.0% ROE

As you can see, Dongguan Tarry ElectronicsLtd's ROE looks pretty weak. Even when compared to the industry average of 6.3%, the ROE figure is pretty disappointing. Therefore, it might not be wrong to say that the five year net income decline of 19% seen by Dongguan Tarry ElectronicsLtd was possibly a result of it having a lower ROE. We reckon that there could also be other factors at play here. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

However, when we compared Dongguan Tarry ElectronicsLtd's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 6.4% in the same period. This is quite worrisome.

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. Doing so will help them establish if the stock's future looks promising or ominous. Is Dongguan Tarry ElectronicsLtd fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Dongguan Tarry ElectronicsLtd Efficiently Re-investing Its Profits?

Looking at its three-year median payout ratio of 38% (or a retention ratio of 62%) which is pretty normal, Dongguan Tarry ElectronicsLtd's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Additionally, Dongguan Tarry ElectronicsLtd has paid dividends over a period of three years, which means that the company's management is rather focused on keeping up its dividend payments, regardless of the shrinking earnings.

Summary

In total, we're a bit ambivalent about Dongguan Tarry ElectronicsLtd's performance. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings 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