It is hard to get excited after looking at Tongfu MicroelectronicsLtd's (SZSE:002156) recent performance, when its stock has declined 4.3% over the past week. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Particularly, we will be paying attention to Tongfu MicroelectronicsLtd's ROE today.

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. Put another way, it reveals the company's success at turning shareholder investments into profits.

How To Calculate Return On Equity?

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 Tongfu MicroelectronicsLtd is:

2.2% = CN¥321m ÷ CN¥15b (Based on the trailing twelve months to March 2024).

The 'return' is the profit over the last twelve months. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.02 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. 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

Tongfu MicroelectronicsLtd's Earnings Growth And 2.2% ROE

It is hard to argue that Tongfu MicroelectronicsLtd'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. Although, we can see that Tongfu MicroelectronicsLtd saw a modest net income growth of 16% over the past five years. We believe that there might be other aspects that are positively influencing the company's earnings growth. Such as - high earnings retention or an efficient management in place.

As a next step, we compared Tongfu MicroelectronicsLtd's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 20% in the same 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. 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 Tongfu MicroelectronicsLtd is trading on a high P/E or a low P/E, relative to its industry.

Is Tongfu MicroelectronicsLtd Making Efficient Use Of Its Profits?

Tongfu MicroelectronicsLtd has a low three-year median payout ratio of 6.3%, meaning that the company retains the remaining 94% of its profits. This suggests that the management is reinvesting most of the profits to grow the business.

Additionally, Tongfu MicroelectronicsLtd has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders.

Conclusion

In total, it does look like Tongfu MicroelectronicsLtd has some positive aspects to its business. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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