Chengdu Tianjian Technology Co., Ltd. (SZSE:002977) Stock Is Going Strong But Fundamentals Look Uncertain: What Lies Ahead ?

Chengdu Tianjian Technology (SZSE:002977) has had a great run on the share market with its stock up by a significant 27% over the last month. However, we wonder if the company's inconsistent financials would have any adverse impact on the current share price momentum. Specifically, we decided to study Chengdu Tianjian Technology'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Chengdu Tianjian Technology

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 Chengdu Tianjian Technology is:

4.6% = CN¥50m ÷ CN¥1.1b (Based on the trailing twelve months to December 2023).

The 'return' is the yearly profit. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.05 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

Chengdu Tianjian Technology's Earnings Growth And 4.6% ROE

As you can see, Chengdu Tianjian Technology's ROE looks pretty weak. Further, we noted that the company's ROE is similar to the industry average of 4.8%. Therefore, it might not be wrong to say that the five year net income decline of 7.2% seen by Chengdu Tianjian Technology was possibly a result of the disappointing ROE.

So, as a next step, we compared Chengdu Tianjian Technology's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 10% over the last few years.

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. Is Chengdu Tianjian Technology fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Chengdu Tianjian Technology Using Its Retained Earnings Effectively?

Chengdu Tianjian Technology's low three-year median payout ratio of 24% (implying that it retains the remaining 76% of its profits) comes as a surprise when you pair it with the shrinking earnings. The low payout should mean that the company is retaining most of its earnings and consequently, should see some growth. So there could be some other explanations in that regard. For example, the company's business may be deteriorating.

In addition, Chengdu Tianjian Technology has been paying dividends over a period of four years suggesting that keeping up dividend payments is preferred by the management even though earnings have been in decline.

Conclusion

In total, we're a bit ambivalent about Chengdu Tianjian Technology'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. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. You can see the 3 risks we have identified for Chengdu Tianjian Technology by visiting our risks dashboard for free on our platform here.

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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.