It is hard to get excited after looking at TCL Zhonghuan Renewable Energy TechnologyLtd's (SZSE:002129) recent performance, when its stock has declined 27% over the past three months. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Specifically, we decided to study TCL Zhonghuan Renewable Energy TechnologyLtd's ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. 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?

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 TCL Zhonghuan Renewable Energy TechnologyLtd is:

0.8% = CN¥483m ÷ CN¥59b (Based on the trailing twelve months to March 2024).

The 'return' is the profit over the last twelve months. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.01.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.

TCL Zhonghuan Renewable Energy TechnologyLtd's Earnings Growth And 0.8% ROE

It is hard to argue that TCL Zhonghuan Renewable Energy TechnologyLtd's ROE is much good in and of itself. Even compared to the average industry ROE of 5.8%, the company's ROE is quite dismal. However, we we're pleasantly surprised to see that TCL Zhonghuan Renewable Energy TechnologyLtd grew its net income at a significant rate of 38% in the last five years. Therefore, there could be other reasons behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.

As a next step, we compared TCL Zhonghuan Renewable Energy TechnologyLtd'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 20%.

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. 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 TCL Zhonghuan Renewable Energy TechnologyLtd is trading on a high P/E or a low P/E, relative to its industry.

Is TCL Zhonghuan Renewable Energy TechnologyLtd Using Its Retained Earnings Effectively?

TCL Zhonghuan Renewable Energy TechnologyLtd's ' three-year median payout ratio is on the lower side at 6.4% implying that it is retaining a higher percentage (94%) of its profits. So it looks like TCL Zhonghuan Renewable Energy TechnologyLtd is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Moreover, TCL Zhonghuan Renewable Energy TechnologyLtd is determined to keep sharing its profits with shareholders which we infer from its long history of nine years of paying a dividend. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 17% over the next three years. However, TCL Zhonghuan Renewable Energy TechnologyLtd's future ROE is expected to rise to 8.3% despite the expected increase in the company's payout ratio. We infer that there could be other factors that could be driving the anticipated growth in the company's ROE.

Conclusion

On the whole, we do feel that TCL Zhonghuan Renewable Energy TechnologyLtd has some positive attributes. Despite its low rate of return, the fact that the company reinvests a very high portion of its profits into its business, no doubt contributed to its high earnings growth. We also studied the latest analyst forecasts and found that the company's earnings growth is expected be similar to its current growth rate. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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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