With its stock down 19% over the past three months, it is easy to disregard Zhejiang Wolwo Bio-Pharmaceutical (SZSE:300357). However, stock prices are usually driven by a company's financials over the long term, which in this case look pretty respectable. Particularly, we will be paying attention to Zhejiang Wolwo Bio-Pharmaceutical's ROE today.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Put another way, it reveals the company's success at turning shareholder investments into profits.

How Is ROE Calculated?

Return on equity 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 Zhejiang Wolwo Bio-Pharmaceutical is:

12% = CN¥298m ÷ CN¥2.5b (Based on the trailing twelve months to September 2024).

The 'return' is the amount earned after tax over the last twelve months. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.12 in profit.

Why Is ROE Important For 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 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.

Zhejiang Wolwo Bio-Pharmaceutical's Earnings Growth And 12% ROE

To start with, Zhejiang Wolwo Bio-Pharmaceutical's ROE looks acceptable. On comparing with the average industry ROE of 7.7% the company's ROE looks pretty remarkable. Despite this, Zhejiang Wolwo Bio-Pharmaceutical's five year net income growth was quite low averaging at only 2.5%. That's a bit unexpected from a company which has such a high rate of return. Such a scenario is likely to take place when a company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.

As a next step, we compared Zhejiang Wolwo Bio-Pharmaceutical's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 9.1% in the same period.

Earnings growth is a huge factor in stock valuation. It's important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. Is 300357 fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Zhejiang Wolwo Bio-Pharmaceutical Using Its Retained Earnings Effectively?

Despite having a moderate three-year median payout ratio of 31% (implying that the company retains the remaining 69% of its income), Zhejiang Wolwo Bio-Pharmaceutical's earnings growth was quite low. Therefore, there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Moreover, Zhejiang Wolwo Bio-Pharmaceutical has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 30%. However, Zhejiang Wolwo Bio-Pharmaceutical's ROE is predicted to rise to 17% despite there being no anticipated change in its payout ratio.

Summary

On the whole, we do feel that Zhejiang Wolwo Bio-Pharmaceutical has some positive attributes. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return and is reinvesting ma huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that's preventing growth. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.