Most readers would already be aware that Zhejiang Great Shengda PackagingLtd's (SHSE:603687) stock increased significantly by 13% over the past month. However, we wonder if the company's inconsistent financials would have any adverse impact on the current share price momentum. Specifically, we decided to study Zhejiang Great Shengda PackagingLtd's ROE in this article.

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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.

How Do You 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 Zhejiang Great Shengda PackagingLtd is:

3.8% = CN¥134m ÷ CN¥3.5b (Based on the trailing twelve months to June 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¥0.04.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

Zhejiang Great Shengda PackagingLtd's Earnings Growth And 3.8% ROE

As you can see, Zhejiang Great Shengda PackagingLtd's ROE looks pretty weak. Not just that, even compared to the industry average of 6.2%, the company's ROE is entirely unremarkable. Therefore, it might not be wrong to say that the five year net income decline of 11% seen by Zhejiang Great Shengda PackagingLtd was possibly a result of it having a lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

That being said, we compared Zhejiang Great Shengda PackagingLtd'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 1.3% in the same 5-year period.

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. If you're wondering about Zhejiang Great Shengda PackagingLtd's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Zhejiang Great Shengda PackagingLtd Efficiently Re-investing Its Profits?

When we piece together Zhejiang Great Shengda PackagingLtd's low three-year median payout ratio of 10% (where it is retaining 90% of its profits), calculated for the last three-year period, we are puzzled by the lack of growth. This typically shouldn't be the case when a company is retaining most of its earnings. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

In addition, Zhejiang Great Shengda PackagingLtd has been paying dividends over a period of four years suggesting that keeping up dividend payments is preferred by the management even though earnings have been in decline.

Conclusion

On the whole, we feel that the performance shown by Zhejiang Great Shengda PackagingLtd can be open to many interpretations. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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.