It is hard to get excited after looking at Zhejiang Great Shengda PackagingLtd's (SHSE:603687) recent performance, when its stock has declined 22% over the past month. It is possible that the markets have ignored the company's differing financials and decided to lean-in to the negative sentiment. Fundamentals usually dictate market outcomes so it makes sense to study the company's financials. In this article, we decided to focus on Zhejiang Great Shengda PackagingLtd's ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

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 Zhejiang Great Shengda PackagingLtd is:

3.5% = CN¥123m ÷ CN¥3.5b (Based on the trailing twelve months to March 2024).

The 'return' is the amount earned after tax over the last twelve months. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.04 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. 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 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.

Zhejiang Great Shengda PackagingLtd's Earnings Growth And 3.5% ROE

As you can see, Zhejiang Great Shengda PackagingLtd's ROE looks pretty weak. Even compared to the average industry ROE of 5.6%, the company's ROE is quite dismal. Given the circumstances, the significant decline in net income by 8.7% seen by Zhejiang Great Shengda PackagingLtd over the last five years is not surprising. 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 Zhejiang Great Shengda PackagingLtd's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 1.0% in the same period. This is quite worrisome.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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 Zhejiang Great Shengda PackagingLtd's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Zhejiang Great Shengda PackagingLtd Making Efficient Use Of Its Profits?

When we piece together Zhejiang Great Shengda PackagingLtd's low three-year median payout ratio of 10% (where it is retaining 90% of its profits), calculated for the last three-year period, we are puzzled by the lack of growth. The low payout should mean that the company is retaining most of its earnings and consequently, should see some growth. So there might be other factors at play here which could potentially be hampering growth. For instance, the business has faced some headwinds.

Moreover, Zhejiang Great Shengda PackagingLtd has been paying dividends for four years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer consistent dividends even though earnings have been shrinking.

Summary

In total, we're a bit ambivalent about Zhejiang Great Shengda PackagingLtd'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. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. To know the 3 risks we have identified for Zhejiang Great Shengda PackagingLtd visit our risks dashboard for free.

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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.