China National Accord Medicines' (SZSE:000028) stock is up by a considerable 18% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to China National Accord Medicines' ROE today.

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 Do You Calculate Return On Equity?

Return on equity 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 China National Accord Medicines is:

9.1% = CN¥1.9b ÷ CN¥21b (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¥0.09.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don't share these attributes.

China National Accord Medicines' Earnings Growth And 9.1% ROE

At first glance, China National Accord Medicines' ROE doesn't look very promising. Although a closer study shows that the company's ROE is higher than the industry average of 6.4% which we definitely can't overlook. Consequently, this likely laid the ground for the decent growth of 5.8% seen over the past five years by China National Accord Medicines. 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. Such as- high earnings retention or the company belonging to a high growth industry.

Next, on comparing with the industry net income growth, we found that China National Accord Medicines' growth is quite high when compared to the industry average growth of 4.2% in the same period, which is great to see.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about China National Accord Medicines''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is China National Accord Medicines Making Efficient Use Of Its Profits?

China National Accord Medicines has a low three-year median payout ratio of 21%, meaning that the company retains the remaining 79% of its profits. This suggests that the management is reinvesting most of the profits to grow the business.

Moreover, China National Accord Medicines 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. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 23% of its profits over the next three years. As a result, China National Accord Medicines' ROE is not expected to change by much either, which we inferred from the analyst estimate of 9.6% for future ROE.

Summary

On the whole, we feel that China National Accord Medicines' performance has been quite good. Particularly, we like that the company is reinvesting heavily into its business at a moderate rate of return. Unsurprisingly, this has led to an impressive earnings growth. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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.