Most readers would already be aware that Anhui Xinke New MaterialsLtd's (SHSE:600255) stock increased significantly by 58% over the past three months. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Specifically, we decided to study Anhui Xinke New MaterialsLtd's ROE in this article.

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

How To Calculate Return On Equity?

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 Anhui Xinke New MaterialsLtd is:

1.3% = CN¥24m ÷ CN¥1.8b (Based on the trailing twelve months to September 2024).

The 'return' is the profit 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¥0.01 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. 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.

Anhui Xinke New MaterialsLtd's Earnings Growth And 1.3% ROE

It is hard to argue that Anhui Xinke New MaterialsLtd's ROE is much good in and of itself. Even compared to the average industry ROE of 7.5%, the company's ROE is quite dismal. Despite this, surprisingly, Anhui Xinke New MaterialsLtd saw an exceptional 76% net income growth over the past five years. We reckon that there could be other factors at play here. 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.

As a next step, we compared Anhui Xinke New MaterialsLtd'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 9.8%.

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. This then helps them determine if the stock is placed for a bright or bleak future. 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 Anhui Xinke New MaterialsLtd is trading on a high P/E or a low P/E, relative to its industry.

Is Anhui Xinke New MaterialsLtd Making Efficient Use Of Its Profits?

Given that Anhui Xinke New MaterialsLtd doesn't pay any regular dividends to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.

Summary

Overall, we feel that Anhui Xinke New MaterialsLtd certainly does have some positive factors to consider. 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. Our risks dashboard will have the 1 risk we have identified for Anhui Xinke New MaterialsLtd.

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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.