Hangzhou Biotest Biotech Co.,Ltd. (SHSE:688767) Stock Is Going Strong But Fundamentals Look Uncertain: What Lies Ahead ?

Most readers would already be aware that Hangzhou Biotest BiotechLtd's (SHSE:688767) stock increased significantly by 21% over the past month. 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. Particularly, we will be paying attention to Hangzhou Biotest BiotechLtd's ROE today.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for Hangzhou Biotest BiotechLtd

How Is ROE Calculated?

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 Hangzhou Biotest BiotechLtd is:

4.9% = CN¥115m ÷ CN¥2.4b (Based on the trailing twelve months to June 2024).

The 'return' is the income the business earned over the last year. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.05.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

A Side By Side comparison of Hangzhou Biotest BiotechLtd's Earnings Growth And 4.9% ROE

When you first look at it, Hangzhou Biotest BiotechLtd's ROE doesn't look that attractive. However, its ROE is similar to the industry average of 5.8%, so we won't completely dismiss the company. Having said that, Hangzhou Biotest BiotechLtd's five year net income decline rate was 20%. Bear in mind, the company does have a slightly low ROE. Therefore, the decline in earnings could also be the result of this.

However, when we compared Hangzhou Biotest BiotechLtd's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 3.1% in the same period. This is quite worrisome.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about Hangzhou Biotest BiotechLtd's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Hangzhou Biotest BiotechLtd Making Efficient Use Of Its Profits?

Looking at its three-year median payout ratio of 32% (or a retention ratio of 68%) which is pretty normal, Hangzhou Biotest BiotechLtd's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Moreover, Hangzhou Biotest BiotechLtd has been paying dividends for three years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer consistent dividends even though earnings have been shrinking.

Summary

In total, we're a bit ambivalent about Hangzhou Biotest BiotechLtd's performance. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. 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. To know the 3 risks we have identified for Hangzhou Biotest BiotechLtd 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.