Zhejiang Wanfeng Chemical Co.,Ltd. (SHSE:603172) Is Going Strong But Fundamentals Appear To Be Mixed : Is There A Clear Direction For The Stock?

Zhejiang Wanfeng ChemicalLtd's (SHSE:603172) stock is up by a considerable 25% 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. Specifically, we decided to study Zhejiang Wanfeng ChemicalLtd'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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Zhejiang Wanfeng ChemicalLtd

How To 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 Zhejiang Wanfeng ChemicalLtd is:

3.0% = CN¥32m ÷ CN¥1.0b (Based on the trailing twelve months to March 2024).

The 'return' refers to a company's earnings over the last year. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.03 in profit.

Why Is ROE Important For Earnings Growth?

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

Zhejiang Wanfeng ChemicalLtd's Earnings Growth And 3.0% ROE

As you can see, Zhejiang Wanfeng ChemicalLtd's ROE looks pretty weak. Even when compared to the industry average of 6.3%, the ROE figure is pretty disappointing. Given the circumstances, the significant decline in net income by 28% seen by Zhejiang Wanfeng ChemicalLtd over the last five years is not surprising. However, there could also be other factors causing the earnings to decline. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

So, as a next step, we compared Zhejiang Wanfeng ChemicalLtd'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 7.9% over the last few years.

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Zhejiang Wanfeng ChemicalLtd's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Zhejiang Wanfeng ChemicalLtd Making Efficient Use Of Its Profits?

Looking at its three-year median payout ratio of 29% (or a retention ratio of 71%) which is pretty normal, Zhejiang Wanfeng ChemicalLtd'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 could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Summary

On the whole, we feel that the performance shown by Zhejiang Wanfeng ChemicalLtd can be open to many interpretations. While the company does have a high rate of profit retention, its low rate of return is probably hampering its 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. To know the 4 risks we have identified for Zhejiang Wanfeng ChemicalLtd 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.