Chongqing Fuling Electric Power Industrial's (SHSE:600452) stock is up by a considerable 16% over the past month. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. Specifically, we decided to study Chongqing Fuling Electric Power Industrial's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

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 Chongqing Fuling Electric Power Industrial is:

10% = CN¥517m ÷ CN¥5.1b (Based on the trailing twelve months to March 2024).

The 'return' is the yearly profit. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.10 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. 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.

A Side By Side comparison of Chongqing Fuling Electric Power Industrial's Earnings Growth And 10% ROE

At first glance, Chongqing Fuling Electric Power Industrial's ROE doesn't look very promising. Although a closer study shows that the company's ROE is higher than the industry average of 5.6% which we definitely can't overlook. Consequently, this likely laid the ground for the decent growth of 7.6% seen over the past five years by Chongqing Fuling Electric Power Industrial. Bear in mind, the company does have a moderately low ROE. It is just that the industry ROE is lower. So there might well be other reasons for the earnings to grow. E.g the company has a low payout ratio or could belong to a high growth industry.

Given that the industry shrunk its earnings at a rate of 3.8% over the last few years, the net income growth of the company is quite impressive.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about Chongqing Fuling Electric Power Industrial's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Chongqing Fuling Electric Power Industrial Using Its Retained Earnings Effectively?

Chongqing Fuling Electric Power Industrial has a low three-year median payout ratio of 24%, meaning that the company retains the remaining 76% of its profits. This suggests that the management is reinvesting most of the profits to grow the business.

Additionally, Chongqing Fuling Electric Power Industrial has paid dividends over a period of nine years which means that the company is pretty serious about sharing its profits with shareholders.

Conclusion

On the whole, we feel that Chongqing Fuling Electric Power Industrial's performance has been quite good. In particular, it's great to see that the company has seen significant growth in its earnings backed by a respectable ROE and a high reinvestment rate. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Remember, the price of a stock is also dependent on the perceived risk. Therefore investors must keep themselves informed about the risks involved before investing in any company. Our risks dashboard will have the 1 risk we have identified for Chongqing Fuling Electric Power Industrial.

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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