It is hard to get excited after looking at CNSIG Inner Mongolia Chemical IndustryLtd's (SHSE:600328) recent performance, when its stock has declined 10% over the past month. 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 CNSIG Inner Mongolia Chemical IndustryLtd's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. 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 ROE is:

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

So, based on the above formula, the ROE for CNSIG Inner Mongolia Chemical IndustryLtd is:

8.5% = CN¥1.1b ÷ CN¥13b (Based on the trailing twelve months to September 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¥0.08 in profit.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

A Side By Side comparison of CNSIG Inner Mongolia Chemical IndustryLtd's Earnings Growth And 8.5% ROE

When you first look at it, CNSIG Inner Mongolia Chemical IndustryLtd's ROE doesn't look that attractive. However, the fact that the company's ROE is higher than the average industry ROE of 6.2%, is definitely interesting. Consequently, this likely laid the ground for the decent growth of 5.8% seen over the past five years by CNSIG Inner Mongolia Chemical IndustryLtd. That being said, the company does have a slightly low ROE to begin with, just that it is higher than the industry average. So there might well be other reasons for the earnings to grow. E.g the company has a low payout ratio or could belong to a high growth industry.

We then performed a comparison between CNSIG Inner Mongolia Chemical IndustryLtd's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 4.9% in the same 5-year period.

Earnings growth is a huge factor in stock valuation. 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. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if CNSIG Inner Mongolia Chemical IndustryLtd is trading on a high P/E or a low P/E, relative to its industry.

Is CNSIG Inner Mongolia Chemical IndustryLtd Using Its Retained Earnings Effectively?

CNSIG Inner Mongolia Chemical IndustryLtd has a three-year median payout ratio of 33%, which implies that it retains the remaining 67% of its profits. This suggests that its dividend is well covered, and given the decent growth seen by the company, it looks like management is reinvesting its earnings efficiently.

Moreover, CNSIG Inner Mongolia Chemical IndustryLtd 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.

Conclusion

On the whole, we feel that CNSIG Inner Mongolia Chemical IndustryLtd's performance has been quite good. In particular, it's great to see that the company has seen significant growth in its earnings backed by a respectable ROE and a high reinvestment rate. 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 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.