Suzhou Future Electrical's (SZSE:301386) stock is up by a considerable 44% over the past three months. However, we decided to pay close attention to its weak financials as we are doubtful that the current momentum will keep up, given the scenario. Particularly, we will be paying attention to Suzhou Future Electrical's ROE today.

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 Do You 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 Suzhou Future Electrical is:

6.3% = CN¥92m ÷ CN¥1.5b (Based on the trailing twelve months to September 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¥0.06 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. 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.

Suzhou Future Electrical's Earnings Growth And 6.3% ROE

When you first look at it, Suzhou Future Electrical's ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 6.4%, we may spare it some thought. Even so, Suzhou Future Electrical has shown a fairly decent growth in its net income which grew at a rate of 6.4%. Considering the moderately low ROE, it is quite possible that there might be some other aspects that are positively influencing the company's earnings growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

Next, on comparing with the industry net income growth, we found that Suzhou Future Electrical's reported growth was lower than the industry growth of 10% over the last few years, which is not something we like to see.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about Suzhou Future Electrical's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Suzhou Future Electrical Making Efficient Use Of Its Profits?

Suzhou Future Electrical's high three-year median payout ratio of 113% suggests that the company is paying out more to its shareholders than what it is making. However, this hasn't really hampered its ability to grow as we saw earlier. It would still be worth keeping an eye on that high payout ratio, if for some reason the company runs into problems and business deteriorates.

Along with seeing a growth in earnings, Suzhou Future Electrical only recently started paying dividends. Its quite possible that the company was looking to impress its shareholders.

Summary

Overall, we would be extremely cautious before making any decision on Suzhou Future Electrical. While the company has posted decent earnings growth, the company is retaining little to no profits and is reinvesting those profits at a low rate of return. This makes us doubtful if that growth could continue, especially if by any chance the business is faced with any sort of risk. So far, we've only made a quick discussion around the company's earnings growth. You can do your own research on Suzhou Future Electrical and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.

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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.