IAT Automobile Technology (SZSE:300825) has had a great run on the share market with its stock up by a significant 34% over the last week. 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. Particularly, we will be paying attention to IAT Automobile Technology's ROE today.

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 Do You 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 IAT Automobile Technology is:

0.9% = CN¥22m ÷ CN¥2.5b (Based on the trailing twelve months to March 2024).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.01 in profit.

What Is The Relationship Between ROE And Earnings Growth?

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

IAT Automobile Technology's Earnings Growth And 0.9% ROE

It is hard to argue that IAT Automobile Technology's ROE is much good in and of itself. Even when compared to the industry average of 5.9%, the ROE figure is pretty disappointing. Given the circumstances, the significant decline in net income by 13% seen by IAT Automobile Technology over the last five years is not surprising. However, there could also be other factors causing the earnings to decline. Such as - low earnings retention or poor allocation of capital.

That being said, we compared IAT Automobile Technology's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 14% in the same 5-year period.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is IAT Automobile Technology fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is IAT Automobile Technology Efficiently Re-investing Its Profits?

Because IAT Automobile Technology doesn't pay any regular dividends, we infer that it is retaining all of its profits, which is rather perplexing when you consider the fact that there is no earnings growth to show for it. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Conclusion

In total, we're a bit ambivalent about IAT Automobile Technology's performance. 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. 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 4 risks we have identified for IAT Automobile Technology 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.

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