Declining Stock and Solid Fundamentals: Is The Market Wrong About Jiangsu Huachang Chemical Co., Ltd (SZSE:002274)?

It is hard to get excited after looking at Jiangsu Huachang Chemical's (SZSE:002274) recent performance, when its stock has declined 12% over the past three months. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Jiangsu Huachang Chemical's ROE.

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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Jiangsu Huachang Chemical

How To Calculate Return On Equity?

The formula for return on equity is:

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

So, based on the above formula, the ROE for Jiangsu Huachang Chemical is:

13% = CN¥739m ÷ CN¥5.8b (Based on the trailing twelve months to March 2024).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.13 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

Jiangsu Huachang Chemical's Earnings Growth And 13% ROE

To start with, Jiangsu Huachang Chemical's ROE looks acceptable. Further, the company's ROE compares quite favorably to the industry average of 6.4%. This probably laid the ground for Jiangsu Huachang Chemical's significant 25% net income growth seen over the past five years. However, there could also be other causes behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.

We then compared Jiangsu Huachang Chemical's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 7.8% in the same 5-year period.

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). Doing so will help them establish if the stock's future looks promising or ominous. Has the market priced in the future outlook for 002274? You can find out in our latest intrinsic value infographic research report

Is Jiangsu Huachang Chemical Making Efficient Use Of Its Profits?

The three-year median payout ratio for Jiangsu Huachang Chemical is 30%, which is moderately low. The company is retaining the remaining 70%. So it seems that Jiangsu Huachang Chemical is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

Moreover, Jiangsu Huachang Chemical is determined to keep sharing its profits with shareholders which we infer from its long history of eight years of paying a dividend.

Summary

On the whole, we feel that Jiangsu Huachang Chemical's performance has been quite good. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Remember, the price of a stock is also dependent on the perceived risk. Therefore investors must keep themselves informed about the risks involved before investing in any company. To know the 1 risk we have identified for Jiangsu Huachang Chemical visit our risks dashboard for free.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com