Most readers would already be aware that Shengyi TechnologyLtd's (SHSE:600183) stock increased significantly by 14% over the past three months. 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. Particularly, we will be paying attention to Shengyi TechnologyLtd's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

How To 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 Shengyi TechnologyLtd is:

11% = CN¥1.7b ÷ CN¥16b (Based on the trailing twelve months to September 2024).

The 'return' is the yearly profit. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.11 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don't share these attributes.

Shengyi TechnologyLtd's Earnings Growth And 11% ROE

On the face of it, Shengyi TechnologyLtd's ROE is not much to talk about. Although a closer study shows that the company's ROE is higher than the industry average of 6.3% which we definitely can't overlook. But then again, seeing that Shengyi TechnologyLtd's net income shrunk at a rate of 3.9% in the past five years, makes us think again. Remember, the company's ROE is a bit low to begin with, just that it is higher than the industry average. Therefore, the decline in earnings could also be the result of this.

However, when we compared Shengyi TechnologyLtd's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 3.9% in the same period. This is quite worrisome.

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. Doing so will help them establish if the stock's future looks promising or ominous. Is Shengyi TechnologyLtd fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Shengyi TechnologyLtd Using Its Retained Earnings Effectively?

Shengyi TechnologyLtd's declining earnings is not surprising given how the company is spending most of its profits in paying dividends, judging by its three-year median payout ratio of 68% (or a retention ratio of 32%). The business is only left with a small pool of capital to reinvest - A vicious cycle that doesn't benefit the company in the long-run. Our risks dashboard should have the 2 risks we have identified for Shengyi TechnologyLtd.

In addition, Shengyi TechnologyLtd has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 80%. Still, forecasts suggest that Shengyi TechnologyLtd's future ROE will rise to 16% even though the the company's payout ratio is not expected to change by much.

Summary

In total, we're a bit ambivalent about Shengyi TechnologyLtd's performance. On the one hand, the company does have a decent rate of return, however, its earnings growth number is quite disappointing and as discussed earlier, the low retained earnings is hampering the growth. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. 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.