Most readers would already be aware that Shenzhen iN-Cube Automation's (SZSE:301312) stock increased significantly by 14% over the past 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. Specifically, we decided to study Shenzhen iN-Cube Automation'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

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 Shenzhen iN-Cube Automation is:

3.3% = CN¥38m ÷ CN¥1.2b (Based on the trailing twelve months to March 2024).

The 'return' refers to a company's earnings 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¥0.03 in profit.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

A Side By Side comparison of Shenzhen iN-Cube Automation's Earnings Growth And 3.3% ROE

It is hard to argue that Shenzhen iN-Cube Automation's ROE is much good in and of itself. Not just that, even compared to the industry average of 6.3%, the company's ROE is entirely unremarkable. For this reason, Shenzhen iN-Cube Automation's five year net income decline of 3.2% is not surprising given its lower ROE. We reckon that there could also be other factors at play here. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

However, when we compared Shenzhen iN-Cube Automation's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 6.4% in the same period. This is quite worrisome.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. If you're wondering about Shenzhen iN-Cube Automation's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Shenzhen iN-Cube Automation Using Its Retained Earnings Effectively?

In spite of a normal three-year median payout ratio of 40% (that is, a retention ratio of 60%), the fact that Shenzhen iN-Cube Automation's earnings have shrunk is quite puzzling. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Only recently, Shenzhen iN-Cube Automation stated paying a dividend. This likely means that the management might have concluded that its shareholders have a strong preference for dividends.

Summary

In total, we're a bit ambivalent about Shenzhen iN-Cube Automation's performance. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. 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. To know the 5 risks we have identified for Shenzhen iN-Cube Automation visit our risks dashboard for free.

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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