Tianjin Guifaxiang 18th Street Mahua FoodLtd's (SZSE:002820) stock is up by a considerable 86% over the past three months. We, however wanted to have a closer look at its key financial indicators as the markets usually pay for long-term fundamentals, and in this case, they don't look very promising. Particularly, we will be paying attention to Tianjin Guifaxiang 18th Street Mahua FoodLtd'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. Put another way, it reveals the company's success at turning shareholder investments into profits.

How Do You 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 Tianjin Guifaxiang 18th Street Mahua FoodLtd is:

3.7% = CN¥34m ÷ CN¥929m (Based on the trailing twelve months to September 2024).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each CN¥1 of shareholders' capital it has, the company made CN¥0.04 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. 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. 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.

Tianjin Guifaxiang 18th Street Mahua FoodLtd's Earnings Growth And 3.7% ROE

As you can see, Tianjin Guifaxiang 18th Street Mahua FoodLtd's ROE looks pretty weak. Even compared to the average industry ROE of 7.6%, the company's ROE is quite dismal. For this reason, Tianjin Guifaxiang 18th Street Mahua FoodLtd's five year net income decline of 19% is not surprising given its lower ROE. We reckon that there could also be other factors at play here. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

However, when we compared Tianjin Guifaxiang 18th Street Mahua FoodLtd's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 2.5% in the same period. This is quite worrisome.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It's important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Tianjin Guifaxiang 18th Street Mahua FoodLtd is trading on a high P/E or a low P/E, relative to its industry.

Is Tianjin Guifaxiang 18th Street Mahua FoodLtd Using Its Retained Earnings Effectively?

Tianjin Guifaxiang 18th Street Mahua FoodLtd'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 75% (or a retention ratio of 25%). With only very little left to reinvest into the business, growth in earnings is far from likely. You can see the 3 risks we have identified for Tianjin Guifaxiang 18th Street Mahua FoodLtd by visiting our risks dashboard for free on our platform here.

In addition, Tianjin Guifaxiang 18th Street Mahua FoodLtd has been paying dividends over a period of eight years suggesting that keeping up dividend payments is preferred by the management even though earnings have been in decline.

Conclusion

In total, we would have a hard think before deciding on any investment action concerning Tianjin Guifaxiang 18th Street Mahua FoodLtd. As a result of its low ROE and lack of much reinvestment into the business, the company has seen a disappointing earnings growth rate. Up till now, we've only made a short study of the company's growth data. You can do your own research on Tianjin Guifaxiang 18th Street Mahua FoodLtd 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.