With its stock down 31% over the past three months, it is easy to disregard Yarward Electronics (Shandong) (SZSE:301337). However, stock prices are usually driven by a company's financials over the long term, which in this case look pretty respectable. Specifically, we decided to study Yarward Electronics (Shandong)'s ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

How To Calculate Return On Equity?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Yarward Electronics (Shandong) is:

2.9% = CN¥33m ÷ CN¥1.1b (Based on the trailing twelve months to March 2024).

The 'return' refers to a company's earnings over the last year. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.03.

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.

Yarward Electronics (Shandong)'s Earnings Growth And 2.9% ROE

As you can see, Yarward Electronics (Shandong)'s ROE looks pretty weak. Further, we noted that the company's ROE is similar to the industry average of 3.2%. Moreover, we are quite pleased to see that Yarward Electronics (Shandong)'s net income grew significantly at a rate of 31% over the last five years. Considering the low ROE, it is quite possible that there might also be some other aspects that are positively influencing the company's earnings growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

When you consider the fact that the industry earnings have shrunk at a rate of 6.9% in the same 5-year period, the company's net income growth is pretty remarkable.

Earnings growth is a huge factor in stock valuation. 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. Is Yarward Electronics (Shandong) fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Yarward Electronics (Shandong) Using Its Retained Earnings Effectively?

The three-year median payout ratio for Yarward Electronics (Shandong) is 37%, which is moderately low. The company is retaining the remaining 63%. By the looks of it, the dividend is well covered and Yarward Electronics (Shandong) is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.

While Yarward Electronics (Shandong) has seen growth in its earnings, it only recently started to pay a dividend. It is most likely that the company decided to impress new and existing shareholders with a dividend.

Conclusion

Overall, we feel that Yarward Electronics (Shandong) certainly does have some positive factors to consider. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. Our risks dashboard would have the 4 risks we have identified for Yarward Electronics (Shandong).

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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.