YAPP Automotive Systems (SHSE:603013) 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. In this article, we decided to focus on YAPP Automotive Systems' ROE.

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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.

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 YAPP Automotive Systems is:

12% = CN¥504m ÷ CN¥4.2b (Based on the trailing twelve months to December 2023).

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¥0.12 in profit.

What Has ROE Got To Do With 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.

YAPP Automotive Systems' Earnings Growth And 12% ROE

To start with, YAPP Automotive Systems' ROE looks acceptable. On comparing with the average industry ROE of 7.7% the company's ROE looks pretty remarkable. This probably laid the ground for YAPP Automotive Systems' moderate 6.8% net income growth seen over the past five years.

We then performed a comparison between YAPP Automotive Systems' net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 6.4% in the same 5-year period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. 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 YAPP Automotive Systems is trading on a high P/E or a low P/E, relative to its industry.

Is YAPP Automotive Systems Using Its Retained Earnings Effectively?

The high three-year median payout ratio of 64% (or a retention ratio of 36%) for YAPP Automotive Systems suggests that the company's growth wasn't really hampered despite it returning most of its income to its shareholders.

Besides, YAPP Automotive Systems has been paying dividends over a period of five years. This shows that the company is committed to sharing profits with its shareholders.

Conclusion

In total, we are pretty happy with YAPP Automotive Systems' performance. In particular, its high ROE is quite noteworthy and also the probable explanation behind its considerable earnings growth. Yet, the company is retaining a small portion of its profits. Which means that the company has been able to grow its earnings in spite of it, so that's not too bad. Up till now, we've only made a short study of the company's growth data. You can do your own research on YAPP Automotive Systems and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.

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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.