Yutong Heavy IndustriesLtd's (SHSE:600817) stock is up by 8.2% over the past three months. Given that the markets usually pay for the long-term financial health of a company, we wonder if the current momentum in the share price will keep up, given that the company's financials don't look very promising. Specifically, we decided to study Yutong Heavy IndustriesLtd's ROE in this article.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

How To 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 Yutong Heavy IndustriesLtd is:

8.2% = CN¥207m ÷ CN¥2.5b (Based on the trailing twelve months to June 2024).

The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.08 in profit.

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 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.

Yutong Heavy IndustriesLtd's Earnings Growth And 8.2% ROE

When you first look at it, Yutong Heavy IndustriesLtd's ROE doesn't look that attractive. Yet, a closer study shows that the company's ROE is similar to the industry average of 7.0%. Still, Yutong Heavy IndustriesLtd has seen a flat net income growth over the past five years. Bear in mind, the company's ROE is not very high. So that could also be one of the reasons behind the company's flat growth in earnings.

Next, on comparing with the industry net income growth, we found that Yutong Heavy IndustriesLtd's reported growth was lower than the industry growth of 9.1% over the last few years, which is not something we like to see.

Earnings growth is a huge factor in stock valuation. 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. Is Yutong Heavy IndustriesLtd fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Yutong Heavy IndustriesLtd Making Efficient Use Of Its Profits?

With a high three-year median payout ratio of 62% (implying that the company keeps only 38% of its income) of its business to reinvest into its business), most of Yutong Heavy IndustriesLtd's profits are being paid to shareholders, which explains the absence of growth in earnings.

In addition, Yutong Heavy IndustriesLtd only recently started paying a dividend so the management must have decided the shareholders prefer dividends over earnings growth.

Conclusion

Overall, we would be extremely cautious before making any decision on Yutong Heavy IndustriesLtd. The company has seen a lack of earnings growth as a result of retaining very little profits and whatever little it does retain, is being reinvested at a very low rate of return. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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.