Zhejiang Chinastars New Materials Group (SZSE:301077) has had a great run on the share market with its stock up by a significant 19% over the last week. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Specifically, we decided to study Zhejiang Chinastars New Materials Group'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 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 Zhejiang Chinastars New Materials Group is:

10.0% = CN¥123m ÷ CN¥1.2b (Based on the trailing twelve months to June 2024).

The 'return' is the profit 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¥0.10 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. 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Zhejiang Chinastars New Materials Group's Earnings Growth And 10.0% ROE

At first glance, Zhejiang Chinastars New Materials Group's ROE doesn't look very promising. However, the fact that the company's ROE is higher than the average industry ROE of 7.8%, is definitely interesting. However, Zhejiang Chinastars New Materials Group's five year net income growth was quite low averaging at only 2.3%. Bear in mind, the company does have a low ROE. It is just that the industry ROE is lower. Hence, this goes some way in explaining the low earnings growth.

As a next step, we compared Zhejiang Chinastars New Materials Group's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 1.7%.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It's important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Zhejiang Chinastars New Materials Group fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Zhejiang Chinastars New Materials Group Making Efficient Use Of Its Profits?

With a high three-year median payout ratio of 84% (or a retention ratio of 16%), most of Zhejiang Chinastars New Materials Group's profits are being paid to shareholders. This definitely contributes to the low earnings growth seen by the company.

In addition, Zhejiang Chinastars New Materials Group only recently started paying a dividend so the management must have decided the shareholders prefer dividends over earnings growth.

Summary

On the whole, we do feel that Zhejiang Chinastars New Materials Group has some positive attributes. Namely, its significant earnings growth, to which its moderate rate of return likely contributed. While the company is paying out most of its earnings as dividends, it has been able to grow its earnings in spite of it, so that's probably a good sign. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. You can see the 1 risk we have identified for Zhejiang Chinastars New Materials Group by visiting our risks dashboard for free on our platform here.

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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.