Most readers would already be aware that Caihong Display DevicesLtd's (SHSE:600707) stock increased significantly by 15% over the past three months. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. In this article, we decided to focus on Caihong Display DevicesLtd's ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

How Is ROE Calculated?

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 Caihong Display DevicesLtd is:

7.3% = CN¥1.6b ÷ CN¥22b (Based on the trailing twelve months to September 2024).

The 'return' is the profit 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¥0.07 in profit.

What Has ROE Got To Do With Earnings Growth?

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

Caihong Display DevicesLtd's Earnings Growth And 7.3% ROE

On the face of it, Caihong Display DevicesLtd's ROE is not much to talk about. However, given that the company's ROE is similar to the average industry ROE of 6.3%, we may spare it some thought. On the other hand, Caihong Display DevicesLtd reported a fairly low 3.6% net income growth over the past five years. Bear in mind, the company's ROE is not very high . Hence, this does provide some context to low earnings growth seen by the company.

As a next step, we compared Caihong Display DevicesLtd's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 3.9% in the same period.

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

Is Caihong Display DevicesLtd Using Its Retained Earnings Effectively?

Caihong Display DevicesLtd doesn't pay any regular dividends, which means that it is retaining all of its earnings. However, this doesn't explain the low earnings growth the company has seen. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

Conclusion

On the whole, we do feel that Caihong Display DevicesLtd has some positive attributes. That is, a decent growth in earnings backed by a high rate of reinvestment. However, we do feel that that earnings growth could have been higher if the business were to improve on the low ROE rate. Especially given how the company is reinvesting a huge chunk of its profits. 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. You can see the 1 risk we have identified for Caihong Display DevicesLtd by visiting our risks dashboard for free on our platform here.

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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.