Henan Liliang Diamond Co., Ltd.'s (SZSE:301071) Stock Has Shown Weakness Lately But Financial Prospects Look Decent: Is The Market Wrong?

Henan Liliang Diamond (SZSE:301071) has had a rough three months with its share price down 17%. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on Henan Liliang Diamond'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Henan Liliang Diamond

How Do You 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 Henan Liliang Diamond is:

7.4% = CN¥395m ÷ CN¥5.4b (Based on the trailing twelve months to March 2024).

The 'return' is the yearly profit. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.07 in profit.

Why Is ROE Important For 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.

Henan Liliang Diamond's Earnings Growth And 7.4% ROE

At first glance, Henan Liliang Diamond's ROE doesn't look very promising. Yet, a closer study shows that the company's ROE is similar to the industry average of 6.3%. Moreover, we are quite pleased to see that Henan Liliang Diamond's net income grew significantly at a rate of 35% over the last five years. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

Next, on comparing with the industry net income growth, we found that Henan Liliang Diamond's growth is quite high when compared to the industry average growth of 7.9% in the same period, which is great to see.

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. Doing so will help them establish if the stock's future looks promising or ominous. Is Henan Liliang Diamond fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Henan Liliang Diamond Using Its Retained Earnings Effectively?

Henan Liliang Diamond has a three-year median payout ratio of 30% (where it is retaining 70% of its income) which is not too low or not too high. So it seems that Henan Liliang Diamond is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

While Henan Liliang Diamond has seen growth in its earnings, it only recently started to pay a dividend. It is most likely that the company decided to impress new and existing shareholders with a dividend. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 31% of its profits over the next three years. Regardless, the future ROE for Henan Liliang Diamond is predicted to rise to 9.3% despite there being not much change expected in its payout ratio.

Summary

Overall, we feel that Henan Liliang Diamond certainly does have some positive factors to consider. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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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.

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