Ling Yun Industrial (SHSE:600480) has had a rough three months with its share price down 31%. However, stock prices are usually driven by a company's financial performance over the long term, which in this case looks quite promising. Particularly, we will be paying attention to Ling Yun Industrial's 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 Is ROE Calculated?

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 Ling Yun Industrial is:

10% = CN¥960m ÷ CN¥9.4b (Based on the trailing twelve months to June 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¥0.10 in profit.

Why Is ROE Important For 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 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.

Ling Yun Industrial's Earnings Growth And 10% ROE

When you first look at it, Ling Yun Industrial's ROE doesn't look that attractive. However, the fact that the its ROE is quite higher to the industry average of 8.2% doesn't go unnoticed by us. Even more so after seeing Ling Yun Industrial's exceptional 53% net income growth over the past five years. Bear in mind, the company does have a moderately low ROE. It is just that the industry ROE is lower. 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.

As a next step, we compared Ling Yun Industrial's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 8.7%.

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. 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 Ling Yun Industrial is trading on a high P/E or a low P/E, relative to its industry.

Is Ling Yun Industrial Using Its Retained Earnings Effectively?

Ling Yun Industrial's three-year median payout ratio is a pretty moderate 29%, meaning the company retains 71% of its income. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like Ling Yun Industrial is reinvesting its earnings efficiently.

Besides, Ling Yun Industrial has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 29%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 10.0%.

Conclusion

Overall, we are quite pleased with Ling Yun Industrial's performance. 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. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.