Gansu Longshenrongfa Pharmaceutical IndustryLTD's (SZSE:300534) stock is up by a considerable 20% over the past three months. 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 Gansu Longshenrongfa Pharmaceutical IndustryLTD's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

How Is ROE Calculated?

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 Gansu Longshenrongfa Pharmaceutical IndustryLTD is:

9.5% = CN¥68m ÷ CN¥720m (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¥0.10 in profit.

What Has ROE Got To Do With 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 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.

Gansu Longshenrongfa Pharmaceutical IndustryLTD's Earnings Growth And 9.5% ROE

At first glance, Gansu Longshenrongfa Pharmaceutical IndustryLTD's ROE doesn't look very promising. Although a closer study shows that the company's ROE is higher than the industry average of 7.7% which we definitely can't overlook. Particularly, the substantial 55% net income growth seen by Gansu Longshenrongfa Pharmaceutical IndustryLTD over the past five years is impressive . Bear in mind, the company does have a moderately low ROE. It is just that the industry ROE is lower. Therefore, the growth in earnings could also be the result of other factors. Such as- high earnings retention or the company belonging to a high growth industry.

Next, on comparing with the industry net income growth, we found that Gansu Longshenrongfa Pharmaceutical IndustryLTD's growth is quite high when compared to the industry average growth of 9.1% in the same period, which is great to see.

Earnings growth is an important metric to consider when valuing a stock. 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 Gansu Longshenrongfa Pharmaceutical IndustryLTD fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Gansu Longshenrongfa Pharmaceutical IndustryLTD Making Efficient Use Of Its Profits?

Gansu Longshenrongfa Pharmaceutical IndustryLTD's three-year median payout ratio to shareholders is 17%, which is quite low. This implies that the company is retaining 83% of its profits. This suggests that the management is reinvesting most of the profits to grow the business as evidenced by the growth seen by the company.

Additionally, Gansu Longshenrongfa Pharmaceutical IndustryLTD has paid dividends over a period of eight years which means that the company is pretty serious about sharing its profits with shareholders.

Summary

In total, we are pretty happy with Gansu Longshenrongfa Pharmaceutical IndustryLTD's performance. Particularly, we like that the company is reinvesting heavily into its business at a moderate rate of return. Unsurprisingly, this has led to an impressive earnings growth. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Remember, the price of a stock is also dependent on the perceived risk. Therefore investors must keep themselves informed about the risks involved before investing in any company. Our risks dashboard would have the 2 risks we have identified for Gansu Longshenrongfa Pharmaceutical IndustryLTD.

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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.