Gree Electric Appliances, Inc. of Zhuhai's (SZSE:000651) Has Had A Decent Run On The Stock market: Are Fundamentals In The Driver's Seat?

Most readers would already know that Gree Electric Appliances of Zhuhai's (SZSE:000651) stock increased by 6.9% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to investigate if the company's decent financials had a hand to play in the recent price move. In this article, we decided to focus on Gree Electric Appliances of Zhuhai's ROE.

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.

Check out our latest analysis for Gree Electric Appliances of Zhuhai

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 Gree Electric Appliances of Zhuhai is:

23% = CN¥28b ÷ CN¥125b (Based on the trailing twelve months to March 2024).

The 'return' is the income the business earned over the last year. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.23 in profit.

What Is The Relationship Between ROE And 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 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.

Gree Electric Appliances of Zhuhai's Earnings Growth And 23% ROE

To start with, Gree Electric Appliances of Zhuhai's ROE looks acceptable. Especially when compared to the industry average of 9.8% the company's ROE looks pretty impressive. Despite this, Gree Electric Appliances of Zhuhai's five year net income growth was quite low averaging at only 3.3%. This is generally not the case as when a company has a high rate of return it should usually also have a high earnings growth rate. We reckon that a low growth, when returns are quite high could be the result of certain circumstances like low earnings retention or poor allocation of capital.

We then compared Gree Electric Appliances of Zhuhai's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 6.1% in the same 5-year period, which is a bit concerning.

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. Is 000651 fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Gree Electric Appliances of Zhuhai Making Efficient Use Of Its Profits?

Despite having a normal three-year median payout ratio of 46% (or a retention ratio of 54% over the past three years, Gree Electric Appliances of Zhuhai has seen very little growth 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.

Moreover, Gree Electric Appliances of Zhuhai 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 47%. Accordingly, forecasts suggest that Gree Electric Appliances of Zhuhai's future ROE will be 22% which is again, similar to the current ROE.

Summary

On the whole, we do feel that Gree Electric Appliances of Zhuhai has some positive attributes. Although, we are disappointed to see a lack of growth in earnings even in spite of a high ROE and and a high reinvestment rate. We believe that there might be some outside factors that could be having a negative impact on the business. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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.

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