Are Guangdong Lifestrong Pharmacy Co., Ltd.'s (SZSE:301111) Mixed Financials Driving The Negative Sentiment?

With its stock down 19% over the past month, it is easy to disregard Guangdong Lifestrong Pharmacy (SZSE:301111). We, however decided to study the company's financials to determine if they have got anything to do with the price decline. Fundamentals usually dictate market outcomes so it makes sense to study the company's financials. In this article, we decided to focus on Guangdong Lifestrong Pharmacy's ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for Guangdong Lifestrong Pharmacy

How Is ROE Calculated?

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 Guangdong Lifestrong Pharmacy is:

2.1% = CN¥16m ÷ CN¥779m (Based on the trailing twelve months to September 2024).

The 'return' is the income the business earned over the last year. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.02 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. 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. 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.

Guangdong Lifestrong Pharmacy's Earnings Growth And 2.1% ROE

It is quite clear that Guangdong Lifestrong Pharmacy's ROE is rather low. Even when compared to the industry average of 7.9%, the ROE figure is pretty disappointing. For this reason, Guangdong Lifestrong Pharmacy's five year net income decline of 26% is not surprising given its lower ROE. We reckon that there could also be other factors at play here. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

So, as a next step, we compared Guangdong Lifestrong Pharmacy's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 9.3% over the last few years.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Guangdong Lifestrong Pharmacy fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Guangdong Lifestrong Pharmacy Making Efficient Use Of Its Profits?

Looking at its three-year median payout ratio of 48% (or a retention ratio of 52%) which is pretty normal, Guangdong Lifestrong Pharmacy'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. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Additionally, Guangdong Lifestrong Pharmacy has paid dividends over a period of three years, which means that the company's management is rather focused on keeping up its dividend payments, regardless of the shrinking earnings.

Summary

Overall, we have mixed feelings about Guangdong Lifestrong Pharmacy. 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. You can see the 3 risks we have identified for Guangdong Lifestrong Pharmacy by visiting our risks dashboard for free on our platform here.

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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.