Anhui Provincial Architectural Design and Research Institute Co.,Ltd. (SZSE:301167) Stock Is Going Strong But Fundamentals Look Uncertain: What Lies Ahead ?

Anhui Provincial Architectural Design and Research InstituteLtd's (SZSE:301167) stock is up by a considerable 17% over the past three months. However, we wonder if the company's inconsistent financials would have any adverse impact on the current share price momentum. Particularly, we will be paying attention to Anhui Provincial Architectural Design and Research InstituteLtd'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Anhui Provincial Architectural Design and Research InstituteLtd

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 Anhui Provincial Architectural Design and Research InstituteLtd is:

3.6% = CN¥35m ÷ CN¥976m (Based on the trailing twelve months to September 2024).

The 'return' is the profit over the last twelve months. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.04.

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. 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.

Anhui Provincial Architectural Design and Research InstituteLtd's Earnings Growth And 3.6% ROE

It is quite clear that Anhui Provincial Architectural Design and Research InstituteLtd's ROE is rather low. Even compared to the average industry ROE of 6.6%, the company's ROE is quite dismal. Therefore, it might not be wrong to say that the five year net income decline of 9.5% seen by Anhui Provincial Architectural Design and Research InstituteLtd 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 example, the business has allocated capital poorly, or that the company has a very high payout ratio.

That being said, we compared Anhui Provincial Architectural Design and Research InstituteLtd's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 3.5% in the same 5-year period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. 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 Anhui Provincial Architectural Design and Research InstituteLtd is trading on a high P/E or a low P/E, relative to its industry.

Is Anhui Provincial Architectural Design and Research InstituteLtd Making Efficient Use Of Its Profits?

Looking at its three-year median payout ratio of 26% (or a retention ratio of 74%) which is pretty normal, Anhui Provincial Architectural Design and Research InstituteLtd's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. 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, Anhui Provincial Architectural Design and Research InstituteLtd has been paying dividends over a period of three years suggesting that keeping up dividend payments is preferred by the management even though earnings have been in decline.

Conclusion

On the whole, we feel that the performance shown by Anhui Provincial Architectural Design and Research InstituteLtd can be open to many interpretations. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. 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. To know the 3 risks we have identified for Anhui Provincial Architectural Design and Research InstituteLtd visit our risks dashboard for free.

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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.