Declining Stock and Solid Fundamentals: Is The Market Wrong About Wedge Industrial Co.,Ltd. (SZSE:000534)?

With its stock down 7.3% over the past week, it is easy to disregard Wedge IndustrialLtd (SZSE:000534). However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. Particularly, we will be paying attention to Wedge IndustrialLtd's ROE today.

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.

See our latest analysis for Wedge IndustrialLtd

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 Wedge IndustrialLtd is:

15% = CN¥194m ÷ CN¥1.3b (Based on the trailing twelve months to March 2024).

The 'return' refers to a company's earnings over the last year. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.15.

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. 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.

Wedge IndustrialLtd's Earnings Growth And 15% ROE

To begin with, Wedge IndustrialLtd seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 3.9%. Probably as a result of this, Wedge IndustrialLtd was able to see a decent growth of 11% over the last five years.

Next, on comparing with the industry net income growth, we found that the growth figure reported by Wedge IndustrialLtd compares quite favourably to the industry average, which shows a decline of 10% over the last few years.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. 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 Wedge IndustrialLtd's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Wedge IndustrialLtd Using Its Retained Earnings Effectively?

Wedge IndustrialLtd has a three-year median payout ratio of 26%, which implies that it retains the remaining 74% of its profits. This suggests that its dividend is well covered, and given the decent growth seen by the company, it looks like management is reinvesting its earnings efficiently.

Besides, Wedge IndustrialLtd has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 25%. Still, forecasts suggest that Wedge IndustrialLtd's future ROE will rise to 24% even though the the company's payout ratio is not expected to change by much.

Conclusion

On the whole, we feel that Wedge IndustrialLtd's performance has been quite good. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.