Shenzhen VMAX New Energy (SHSE:688612) has had a rough three months with its share price down 25%. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Specifically, we decided to study Shenzhen VMAX New Energy's ROE in this article.

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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.

How Is ROE Calculated?

Return on equity 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 Shenzhen VMAX New Energy is:

15% = CN¥516m ÷ CN¥3.4b (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¥0.15 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. 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.

Shenzhen VMAX New Energy's Earnings Growth And 15% ROE

To start with, Shenzhen VMAX New Energy's ROE looks acceptable. On comparing with the average industry ROE of 8.5% the company's ROE looks pretty remarkable. This certainly adds some context to Shenzhen VMAX New Energy's exceptional 49% net income growth seen over the past five years. We reckon that there could also be other factors at play here. Such as - high earnings retention or an efficient management in place.

We then compared Shenzhen VMAX New Energy'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 9.9% 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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Shenzhen VMAX New Energy is trading on a high P/E or a low P/E, relative to its industry.

Is Shenzhen VMAX New Energy Using Its Retained Earnings Effectively?

Shenzhen VMAX New Energy's three-year median payout ratio is a pretty moderate 47%, meaning the company retains 53% of its income. By the looks of it, the dividend is well covered and Shenzhen VMAX New Energy is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.

Along with seeing a growth in earnings, Shenzhen VMAX New Energy only recently started paying dividends. Its quite possible that the company was looking to impress its shareholders. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 23% over the next three years. However, the company's ROE is not expected to change by much despite the lower expected payout ratio.

Summary

On the whole, we feel that Shenzhen VMAX New Energy's performance has been quite good. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.