With its stock down 31% over the past three months, it is easy to disregard Shenzhen Inovance TechnologyLtd (SZSE:300124). However, stock prices are usually driven by a company's financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Shenzhen Inovance TechnologyLtd's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

How Is ROE Calculated?

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 Inovance TechnologyLtd is:

19% = CN¥4.8b ÷ CN¥26b (Based on the trailing twelve months to March 2024).

The 'return' is the yearly profit. One way to conceptualize this is that for each CN¥1 of shareholders' capital it has, the company made CN¥0.19 in profit.

What Has ROE Got To Do With Earnings Growth?

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

Shenzhen Inovance TechnologyLtd's Earnings Growth And 19% ROE

To begin with, Shenzhen Inovance TechnologyLtd seems to have a respectable ROE. On comparing with the average industry ROE of 6.9% the company's ROE looks pretty remarkable. This probably laid the ground for Shenzhen Inovance TechnologyLtd's significant 31% net income growth seen over the past five years. We reckon that there could also be other factors at play here. 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.

We then compared Shenzhen Inovance TechnologyLtd's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 9.6% in the same 5-year period.

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. What is 300124 worth today? The intrinsic value infographic in our free research report helps visualize whether 300124 is currently mispriced by the market.

Is Shenzhen Inovance TechnologyLtd Using Its Retained Earnings Effectively?

Shenzhen Inovance TechnologyLtd has a really low three-year median payout ratio of 22%, meaning that it has the remaining 78% left over to reinvest into its business. So it seems like the management is reinvesting profits heavily to grow its business and this reflects in its earnings growth number.

Moreover, Shenzhen Inovance TechnologyLtd is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Looking at the current analyst consensus data, we can see that the company's future payout ratio is expected to rise to 27% over the next three years. Despite the higher expected payout ratio, the company's ROE is not expected to change by much.

Conclusion

On the whole, we feel that Shenzhen Inovance TechnologyLtd's performance has been quite good. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.