CMST DevelopmentLtd (SHSE:600787) has had a great run on the share market with its stock up by a significant 102% over the last three months. 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. In this article, we decided to focus on CMST DevelopmentLtd's ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

How To Calculate Return On Equity?

The formula for ROE is:

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

So, based on the above formula, the ROE for CMST DevelopmentLtd is:

6.1% = CN¥899m ÷ CN¥15b (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¥0.06 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

CMST DevelopmentLtd's Earnings Growth And 6.1% ROE

When you first look at it, CMST DevelopmentLtd's ROE doesn't look that attractive. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 8.3%. Although, we can see that CMST DevelopmentLtd saw a modest net income growth of 13% over the past five years. We reckon that there could be other factors at play here. Such as - high earnings retention or an efficient management in place.

As a next step, we compared CMST DevelopmentLtd'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 7.8%.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. If you're wondering about CMST DevelopmentLtd's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is CMST DevelopmentLtd Making Efficient Use Of Its Profits?

With a three-year median payout ratio of 34% (implying that the company retains 66% of its profits), it seems that CMST DevelopmentLtd is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Additionally, CMST DevelopmentLtd has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders.

Summary

In total, it does look like CMST DevelopmentLtd has some positive aspects to its business. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. 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 2 risks we have identified for CMST DevelopmentLtd 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.