Most readers would already be aware that Kinco Automation (Shanghai)Ltd's (SHSE:688160) stock increased significantly by 49% over the past month. But the company's key financial indicators appear to be differing across the board and that makes us question whether or not the company's current share price momentum can be maintained. In this article, we decided to focus on Kinco Automation (Shanghai)Ltd's ROE.

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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

How Do You Calculate Return On Equity?

The formula for return on equity is:

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

So, based on the above formula, the ROE for Kinco Automation (Shanghai)Ltd is:

7.0% = CN¥52m ÷ CN¥752m (Based on the trailing twelve months to June 2024).

The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each CN¥1 of shareholders' capital it has, the company made CN¥0.07 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.

Kinco Automation (Shanghai)Ltd's Earnings Growth And 7.0% ROE

When you first look at it, Kinco Automation (Shanghai)Ltd's ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 6.5%, we may spare it some thought. Having said that, Kinco Automation (Shanghai)Ltd has shown a meagre net income growth of 2.1% over the past five years. Remember, the company's ROE is not particularly great to begin with. So this could also be one of the reasons behind the company's low growth in earnings.

Next, on comparing with the industry net income growth, we found that Kinco Automation (Shanghai)Ltd's reported growth was lower than the industry growth of 5.0% over the last few years, which is not something we like to see.

Earnings growth is a huge factor in stock valuation. 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. If you're wondering about Kinco Automation (Shanghai)Ltd's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Kinco Automation (Shanghai)Ltd Efficiently Re-investing Its Profits?

Despite having a moderate three-year median payout ratio of 37% (implying that the company retains the remaining 63% of its income), Kinco Automation (Shanghai)Ltd's earnings growth was quite low. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

In addition, Kinco Automation (Shanghai)Ltd has been paying dividends over a period of four years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.

Conclusion

Overall, we have mixed feelings about Kinco Automation (Shanghai)Ltd. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. Our risks dashboard would have the 3 risks we have identified for Kinco Automation (Shanghai)Ltd.

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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.