It is hard to get excited after looking at Leader Harmonious Drive Systems' (SHSE:688017) recent performance, when its stock has declined 35% over the past three months. However, stock prices are usually driven by a company's financials over the long term, which in this case look pretty respectable. Particularly, we will be paying attention to Leader Harmonious Drive Systems' 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 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 Leader Harmonious Drive Systems is:

4.0% = CN¥81m ÷ CN¥2.0b (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¥0.04 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. 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. 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.

A Side By Side comparison of Leader Harmonious Drive Systems' Earnings Growth And 4.0% ROE

It is hard to argue that Leader Harmonious Drive Systems' ROE is much good in and of itself. Not just that, even compared to the industry average of 6.9%, the company's ROE is entirely unremarkable. Although, we can see that Leader Harmonious Drive Systems saw a modest net income growth of 8.4% over the past five years. Therefore, the growth in earnings could probably have been caused by other variables. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

Next, on comparing Leader Harmonious Drive Systems' net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 9.6% over the last few years.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Leader Harmonious Drive Systems''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Leader Harmonious Drive Systems Using Its Retained Earnings Effectively?

Leader Harmonious Drive Systems has a healthy combination of a moderate three-year median payout ratio of 26% (or a retention ratio of 74%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.

Moreover, Leader Harmonious Drive Systems is determined to keep sharing its profits with shareholders which we infer from its long history of three years of paying a dividend. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 35% over the next three years. Regardless, the future ROE for Leader Harmonious Drive Systems is speculated to rise to 8.6% despite the anticipated increase in the payout ratio. There could probably be other factors that could be driving the future growth in the ROE.

Conclusion

In total, it does look like Leader Harmonious Drive Systems has some positive aspects to its business. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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.

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