Can Guangzhou Jointas Chemical Co., Ltd.'s (SZSE:002909) Weak Financials Pull The Plug On The Stock's Current Momentum On Its Share Price?

Guangzhou Jointas Chemical's (SZSE:002909) stock is up by a considerable 13% over the past week. However, in this article, we decided to focus on its weak fundamentals, as long-term financial performance of a business is what ultimately dictates market outcomes. Specifically, we decided to study Guangzhou Jointas Chemical's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Guangzhou Jointas Chemical

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 Guangzhou Jointas Chemical is:

0.6% = CN¥5.5m ÷ CN¥961m (Based on the trailing twelve months to June 2024).

The 'return' is the profit over the last twelve months. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.01 in profit.

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

Guangzhou Jointas Chemical's Earnings Growth And 0.6% ROE

As you can see, Guangzhou Jointas Chemical's ROE looks pretty weak. Even when compared to the industry average of 6.4%, the ROE figure is pretty disappointing. Given the circumstances, the significant decline in net income by 38% seen by Guangzhou Jointas Chemical over the last five years is not surprising. However, there could also be other factors causing the earnings to decline. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

That being said, we compared Guangzhou Jointas Chemical's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 6.2% in the same 5-year period.

Earnings growth is an important metric to consider when valuing a stock. 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 Guangzhou Jointas Chemical is trading on a high P/E or a low P/E, relative to its industry.

Is Guangzhou Jointas Chemical Using Its Retained Earnings Effectively?

Guangzhou Jointas Chemical has a high three-year median payout ratio of 90% (that is, it is retaining 10% of its profits). This suggests that the company is paying most of its profits as dividends to its shareholders. This goes some way in explaining why its earnings have been shrinking. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. To know the 6 risks we have identified for Guangzhou Jointas Chemical visit our risks dashboard for free.

In addition, Guangzhou Jointas Chemical has been paying dividends over a period of six years suggesting that keeping up dividend payments is preferred by the management even though earnings have been in decline.

Conclusion

In total, we would have a hard think before deciding on any investment action concerning Guangzhou Jointas Chemical. Because the company is not reinvesting much into the business, and given the low ROE, it's not surprising to see the lack or absence of growth in its earnings. Until now, we have only just grazed the surface of the company's past performance by looking at the company's fundamentals. You can do your own research on Guangzhou Jointas Chemical and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.

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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.