Wangfujing Group (SHSE:600859) has had a great run on the share market with its stock up by a significant 5.4% over the last month. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. Specifically, we decided to study Wangfujing Group's ROE in this article.

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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.

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 Wangfujing Group is:

2.4% = CN¥500m ÷ CN¥21b (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¥0.02 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. 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.

Wangfujing Group's Earnings Growth And 2.4% ROE

It is quite clear that Wangfujing Group's ROE is rather low. Not just that, even compared to the industry average of 3.7%, the company's ROE is entirely unremarkable. Therefore, it might not be wrong to say that the five year net income decline of 6.9% seen by Wangfujing Group was possibly a result of it having a lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

As a next step, we compared Wangfujing Group's performance with the industry and discovered the industry has shrunk at a rate of 13% in the same period meaning that the company has been shrinking its earnings at a rate lower than the industry. This does appease the negative sentiment around the company to a certain extent.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. What is 600859 worth today? The intrinsic value infographic in our free research report helps visualize whether 600859 is currently mispriced by the market.

Is Wangfujing Group Using Its Retained Earnings Effectively?

Despite having a normal three-year median payout ratio of 34% (where it is retaining 66% of its profits), Wangfujing Group has seen a decline in earnings as we saw above. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

In addition, Wangfujing Group 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. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 30% of its profits over the next three years. However, Wangfujing Group's ROE is predicted to rise to 4.0% despite there being no anticipated change in its payout ratio.

Conclusion

In total, we're a bit ambivalent about Wangfujing Group's performance. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. 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.