With its stock down 17% over the past month, it is easy to disregard Xiangtan Electrochemical ScientificLtd (SZSE:002125). 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. Particularly, we will be paying attention to Xiangtan Electrochemical ScientificLtd's ROE today.

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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.

How To 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 Xiangtan Electrochemical ScientificLtd is:

12% = CN¥348m ÷ CN¥2.9b (Based on the trailing twelve months to March 2024).

The 'return' refers to a company's earnings over the last year. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.12 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. 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 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.

A Side By Side comparison of Xiangtan Electrochemical ScientificLtd's Earnings Growth And 12% ROE

To begin with, Xiangtan Electrochemical ScientificLtd seems to have a respectable ROE. Especially when compared to the industry average of 6.3% the company's ROE looks pretty impressive. This certainly adds some context to Xiangtan Electrochemical ScientificLtd's exceptional 40% net income growth seen over the past five years. We reckon that there could also be other factors at play here. Such as - high earnings retention or an efficient management in place.

Next, on comparing with the industry net income growth, we found that Xiangtan Electrochemical ScientificLtd's growth is quite high when compared to the industry average growth of 7.9% in the same period, which is great to see.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It's important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Xiangtan Electrochemical ScientificLtd's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Xiangtan Electrochemical ScientificLtd Making Efficient Use Of Its Profits?

Xiangtan Electrochemical ScientificLtd has a really low three-year median payout ratio of 23%, meaning that it has the remaining 77% left over to reinvest into its business. So it looks like Xiangtan Electrochemical ScientificLtd is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Additionally, Xiangtan Electrochemical ScientificLtd has paid dividends over a period of five years which means that the company is pretty serious about sharing its profits with shareholders.

Summary

On the whole, we feel that Xiangtan Electrochemical ScientificLtd's performance has been quite good. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Not to forget, share price outcomes are also dependent on the potential risks a company may face. So it is important for investors to be aware of the risks involved in the business. Our risks dashboard would have the 2 risks we have identified for Xiangtan Electrochemical ScientificLtd.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com