Is The Market Rewarding Ningbo Tianyi Medical Appliance Co., Ltd. (SZSE:301097) With A Negative Sentiment As A Result Of Its Mixed Fundamentals?

Ningbo Tianyi Medical Appliance (SZSE:301097) has had a rough month with its share price down 12%. It seems that the market might have completely ignored the positive aspects of the company's fundamentals and decided to weigh-in more on the negative aspects. Fundamentals usually dictate market outcomes so it makes sense to study the company's financials. Particularly, we will be paying attention to Ningbo Tianyi Medical Appliance's ROE today.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Ningbo Tianyi Medical Appliance

How Is ROE Calculated?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Ningbo Tianyi Medical Appliance is:

4.0% = CN¥51m ÷ CN¥1.3b (Based on the trailing twelve months to March 2024).

The 'return' refers to a company's earnings over the last year. 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. 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. 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.

Ningbo Tianyi Medical Appliance's Earnings Growth And 4.0% ROE

As you can see, Ningbo Tianyi Medical Appliance's ROE looks pretty weak. Not just that, even compared to the industry average of 7.4%, the company's ROE is entirely unremarkable. For this reason, Ningbo Tianyi Medical Appliance's five year net income decline of 2.1% is not surprising given its lower ROE. However, there could also be other factors causing the earnings to decline. Such as - low earnings retention or poor allocation of capital.

However, when we compared Ningbo Tianyi Medical Appliance's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 6.5% in the same period. This is quite worrisome.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. 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 Ningbo Tianyi Medical Appliance is trading on a high P/E or a low P/E, relative to its industry.

Is Ningbo Tianyi Medical Appliance Using Its Retained Earnings Effectively?

In spite of a normal three-year median payout ratio of 32% (that is, a retention ratio of 68%), the fact that Ningbo Tianyi Medical Appliance's earnings have shrunk is quite puzzling. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Additionally, Ningbo Tianyi Medical Appliance started paying a dividend only recently. So it looks like the management may have perceived that shareholders favor dividends even though earnings have been in decline.

Summary

Overall, we have mixed feelings about Ningbo Tianyi Medical Appliance. 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. You can see the 4 risks we have identified for Ningbo Tianyi Medical Appliance 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.