Most readers would already be aware that Union OptechLtd's (SZSE:300691) stock increased significantly by 13% over the past three months. However, we wonder if the company's inconsistent financials would have any adverse impact on the current share price momentum. In this article, we decided to focus on Union OptechLtd's ROE.

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.

See our latest analysis for Union OptechLtd

How To 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 Union OptechLtd is:

4.0% = CN¥65m ÷ CN¥1.6b (Based on the trailing twelve months to June 2023).

The 'return' is the income the business earned over the last year. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.04.

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. 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.

A Side By Side comparison of Union OptechLtd's Earnings Growth And 4.0% ROE

It is hard to argue that Union OptechLtd's ROE is much good in and of itself. Even when compared to the industry average of 7.4%, the ROE figure is pretty disappointing. Hence, the flat earnings seen by Union OptechLtd over the past five years could probably be the result of it having a lower ROE.

We then compared Union OptechLtd's net income growth with the industry and found that the average industry growth rate was 12% in the same 5-year period.

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. Doing so will help them establish if the stock's future looks promising or ominous. 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 Union OptechLtd is trading on a high P/E or a low P/E, relative to its industry.

Is Union OptechLtd Efficiently Re-investing Its Profits?

Despite having a moderate three-year median payout ratio of 45% (meaning the company retains55% of profits) in the last three-year period, Union OptechLtd's earnings growth was more or les flat. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

In addition, Union OptechLtd has been paying dividends over a period of five years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.

Summary

Overall, we have mixed feelings about Union OptechLtd. 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. So far, we've only made a quick discussion around the company's earnings growth. You can do your own research on Union OptechLtd and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.

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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.