Are Strong Financial Prospects The Force That Is Driving The Momentum In Suzhou Xianglou New Material Co., Ltd.'s SZSE:301160) Stock?

Suzhou Xianglou New Material (SZSE:301160) has had a great run on the share market with its stock up by a significant 68% over the last three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to Suzhou Xianglou New Material's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for Suzhou Xianglou New Material

How To Calculate Return On Equity?

The formula for ROE is:

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

So, based on the above formula, the ROE for Suzhou Xianglou New Material is:

13% = CN¥202m ÷ CN¥1.5b (Based on the trailing twelve months to September 2024).

The 'return' refers to a company's earnings 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 Has ROE Got To Do With 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.

A Side By Side comparison of Suzhou Xianglou New Material's Earnings Growth And 13% ROE

To start with, Suzhou Xianglou New Material's ROE looks acceptable. Further, the company's ROE compares quite favorably to the industry average of 7.5%. This probably laid the ground for Suzhou Xianglou New Material's significant 24% net income growth seen over the past five years. However, there could also be other causes behind 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.

We then compared Suzhou Xianglou New Material'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 9.8% in the same 5-year period.

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. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Suzhou Xianglou New Material's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Suzhou Xianglou New Material Using Its Retained Earnings Effectively?

The three-year median payout ratio for Suzhou Xianglou New Material is 38%, which is moderately low. The company is retaining the remaining 62%. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like Suzhou Xianglou New Material is reinvesting its earnings efficiently.

While Suzhou Xianglou New Material has been growing its earnings, it only recently started to pay dividends which likely means that the company decided to impress new and existing shareholders with a dividend. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 12% over the next three years. Despite the lower expected payout ratio, the company's ROE is not expected to change by much.

Summary

In total, we are pretty happy with Suzhou Xianglou New Material's performance. 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. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.