Should Weakness in Hualan Biological Vaccine Inc.'s (SZSE:301207) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

Hualan Biological Vaccine (SZSE:301207) has had a rough three months with its share price down 24%. 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 Hualan Biological Vaccine'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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

Check out our latest analysis for Hualan Biological Vaccine

How Do You Calculate Return On Equity?

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 Hualan Biological Vaccine is:

13% = CN¥805m ÷ CN¥6.3b (Based on the trailing twelve months to March 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¥0.13.

What Is The Relationship Between ROE And 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. 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.

Hualan Biological Vaccine's Earnings Growth And 13% ROE

At first glance, Hualan Biological Vaccine seems to have a decent ROE. On comparing with the average industry ROE of 5.8% the company's ROE looks pretty remarkable. Needless to say, we are quite surprised to see that Hualan Biological Vaccine's net income shrunk at a rate of 2.7% over the past five years. We reckon that there could be some other factors at play here that are preventing the company's growth. For example, it could be that the company has a high payout ratio or the business has allocated capital poorly, for instance.

However, when we compared Hualan Biological Vaccine's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 5.4% 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. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Hualan Biological Vaccine is trading on a high P/E or a low P/E, relative to its industry.

Is Hualan Biological Vaccine Making Efficient Use Of Its Profits?

When we piece together Hualan Biological Vaccine's low three-year median payout ratio of 19% (where it is retaining 81% of its profits), calculated for the last three-year period, we are puzzled by the lack of growth. This typically shouldn't be the case when a company is retaining most of its earnings. 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, Hualan Biological Vaccine started paying a dividend only recently. So it looks like the management may have perceived that shareholders favor dividends even though earnings have been in decline.

Conclusion

On the whole, we do feel that Hualan Biological Vaccine has some positive attributes. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return and is reinvesting ma huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that's preventing growth. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. 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.