Can Mixed Fundamentals Have A Negative Impact on Daoming Optics&Chemical Co.,Ltd (SZSE:002632) Current Share Price Momentum?

Daoming Optics&ChemicalLtd (SZSE:002632) has had a great run on the share market with its stock up by a significant 17% over the last week. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. In this article, we decided to focus on Daoming Optics&ChemicalLtd's ROE.

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. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

See our latest analysis for Daoming Optics&ChemicalLtd

How Do You Calculate Return On Equity?

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 Daoming Optics&ChemicalLtd is:

8.0% = CN¥170m ÷ CN¥2.1b (Based on the trailing twelve months to June 2024).

The 'return' is the yearly profit. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.08.

Why Is ROE Important For 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

Daoming Optics&ChemicalLtd's Earnings Growth And 8.0% ROE

At first glance, Daoming Optics&ChemicalLtd's ROE doesn't look very promising. Although a closer study shows that the company's ROE is higher than the industry average of 6.4% which we definitely can't overlook. However, Daoming Optics&ChemicalLtd's five year net income growth was quite low averaging at only 3.6%. Bear in mind, the company does have a low ROE. It is just that the industry ROE is lower. Hence, this goes some way in explaining the low earnings growth.

We then compared Daoming Optics&ChemicalLtd's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 6.3% in the same 5-year period, which is a bit concerning.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. Is Daoming Optics&ChemicalLtd fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Daoming Optics&ChemicalLtd Using Its Retained Earnings Effectively?

The high three-year median payout ratio of 86% (that is, the company retains only 14% of its income) over the past three years for Daoming Optics&ChemicalLtd suggests that the company's earnings growth was lower as a result of paying out a majority of its earnings.

Additionally, Daoming Optics&ChemicalLtd has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.

Conclusion

Overall, we have mixed feelings about Daoming Optics&ChemicalLtd. On the one hand, the company does have a decent rate of return, however, its earnings growth number is quite disappointing and as discussed earlier, the low retained earnings is hampering the 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. Our risks dashboard would have the 3 risks we have identified for Daoming Optics&ChemicalLtd.

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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.