Shandong Homey Aquatic DevelopmentLtd (SHSE:600467) has had a great run on the share market with its stock up by a significant 60% over the last three months. But the company's key financial indicators appear to be differing across the board and that makes us question whether or not the company's current share price momentum can be maintained. Specifically, we decided to study Shandong Homey Aquatic DevelopmentLtd's ROE in this article.

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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

How Is ROE Calculated?

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 Shandong Homey Aquatic DevelopmentLtd is:

1.3% = CN¥45m ÷ CN¥3.4b (Based on the trailing twelve months to September 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¥0.01 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. 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.

Shandong Homey Aquatic DevelopmentLtd's Earnings Growth And 1.3% ROE

It is hard to argue that Shandong Homey Aquatic DevelopmentLtd's ROE is much good in and of itself. Not just that, even compared to the industry average of 7.6%, the company's ROE is entirely unremarkable. Therefore, it might not be wrong to say that the five year net income decline of 13% seen by Shandong Homey Aquatic DevelopmentLtd was possibly a result of it having a lower ROE. However, there could also be other factors causing the earnings to decline. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

However, when we compared Shandong Homey Aquatic DevelopmentLtd's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 2.0% in the same period. This is quite worrisome.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Shandong Homey Aquatic DevelopmentLtd fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Shandong Homey Aquatic DevelopmentLtd Using Its Retained Earnings Effectively?

Looking at its three-year median payout ratio of 32% (or a retention ratio of 68%) which is pretty normal, Shandong Homey Aquatic DevelopmentLtd's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Moreover, Shandong Homey Aquatic DevelopmentLtd has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth.

Conclusion

On the whole, we feel that the performance shown by Shandong Homey Aquatic DevelopmentLtd can be open to many interpretations. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. 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. You can see the 3 risks we have identified for Shandong Homey Aquatic DevelopmentLtd by visiting our risks dashboard for free on our platform here.

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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.