Sumec (SHSE:600710) has had a great run on the share market with its stock up by a significant 6.1% over the last month. Since the market usually pay for a company's long-term fundamentals, we decided to study the company's key performance indicators to see if they could be influencing the market. In this article, we decided to focus on Sumec's ROE.

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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

How Do You Calculate Return On Equity?

ROE can be calculated by using the formula:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Sumec is:

23% = CN¥3.2b ÷ CN¥14b (Based on the trailing twelve months to June 2024).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each CN¥1 of shareholders' capital it has, the company made CN¥0.23 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. 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.

Sumec's Earnings Growth And 23% ROE

To begin with, Sumec has a pretty high ROE which is interesting. Second, a comparison with the average ROE reported by the industry of 5.2% also doesn't go unnoticed by us. This probably laid the groundwork for Sumec's moderate 19% net income growth seen over the past five years.

Next, on comparing with the industry net income growth, we found that Sumec's growth is quite high when compared to the industry average growth of 9.3% in the same period, which is great 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. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Sumec's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Sumec Using Its Retained Earnings Effectively?

With a three-year median payout ratio of 41% (implying that the company retains 59% of its profits), it seems that Sumec is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Moreover, Sumec is determined to keep sharing its profits with shareholders which we infer from its long history of seven years of paying a dividend.

Conclusion

Overall, we are quite pleased with Sumec's performance. 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. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.