Are Shanghai Yizhong Pharmaceutical Co., Ltd.'s (SHSE:688091) Fundamentals Good Enough to Warrant Buying Given The Stock's Recent Weakness?

With its stock down 30% over the past three months, it is easy to disregard Shanghai Yizhong Pharmaceutical (SHSE:688091). However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Specifically, we decided to study Shanghai Yizhong Pharmaceutical's ROE in this article.

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.

Check out our latest analysis for Shanghai Yizhong Pharmaceutical

How Do You Calculate Return On Equity?

ROE 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 Shanghai Yizhong Pharmaceutical is:

9.1% = CN¥136m ÷ CN¥1.5b (Based on the trailing twelve months to March 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¥0.09.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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. 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.

Shanghai Yizhong Pharmaceutical's Earnings Growth And 9.1% ROE

On the face of it, Shanghai Yizhong Pharmaceutical's ROE is not much to talk about. However, given that the company's ROE is similar to the average industry ROE of 7.7%, we may spare it some thought. Looking at Shanghai Yizhong Pharmaceutical's exceptional 96% five-year net income growth in particular, we are definitely impressed. Taking into consideration that the ROE is not particularly high, we reckon that there could also be other factors at play which could be influencing the company's 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.

As a next step, we compared Shanghai Yizhong Pharmaceutical's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 9.2%.

Earnings growth is a huge factor in stock valuation. 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 Shanghai Yizhong Pharmaceutical fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Shanghai Yizhong Pharmaceutical Using Its Retained Earnings Effectively?

The three-year median payout ratio for Shanghai Yizhong Pharmaceutical is 30%, which is moderately low. The company is retaining the remaining 70%. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like Shanghai Yizhong Pharmaceutical is reinvesting its earnings efficiently.

While Shanghai Yizhong Pharmaceutical 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.

Conclusion

In total, it does look like Shanghai Yizhong Pharmaceutical has some positive aspects to its business. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. To know the 2 risks we have identified for Shanghai Yizhong Pharmaceutical visit our risks dashboard for free.

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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