Is Guangdong Shirongzhaoye Co., Ltd.'s (SZSE:002016) Recent Price Movement Underpinned By Its Weak Fundamentals?

Guangdong Shirongzhaoye (SZSE:002016) has had a rough week with its share price down 9.1%. We, however decided to study the company's financials to determine if they have got anything to do with the price decline. Long-term fundamentals are usually what drive market outcomes, so it's worth paying close attention. In this article, we decided to focus on Guangdong Shirongzhaoye's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Guangdong Shirongzhaoye

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 Guangdong Shirongzhaoye is:

3.6% = CN¥177m ÷ CN¥4.9b (Based on the trailing twelve months to March 2024).

The 'return' is the yearly profit. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.04 in profit.

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

Guangdong Shirongzhaoye's Earnings Growth And 3.6% ROE

It is quite clear that Guangdong Shirongzhaoye's ROE is rather low. An industry comparison shows that the company's ROE is not much different from the industry average of 3.9% either. Given the circumstances, the significant decline in net income by 28% seen by Guangdong Shirongzhaoye over the last five years is not surprising.

Furthermore, even when compared to the industry, which has been shrinking its earnings at a rate of 11% over the last few years, we found that Guangdong Shirongzhaoye's performance is pretty disappointing, as it suggests that the company has been shrunk its earnings at a rate faster than the industry.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. Is Guangdong Shirongzhaoye fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Guangdong Shirongzhaoye Making Efficient Use Of Its Profits?

Guangdong Shirongzhaoye's low three-year median payout ratio of 14% (or a retention ratio of 86%) over the last three years should mean that the company is retaining most of its earnings to fuel its growth but the company's earnings have actually shrunk. The low payout should mean that the company is retaining most of its earnings and consequently, should see some growth. So there might be other factors at play here which could potentially be hampering growth. For instance, the business has faced some headwinds.

Moreover, Guangdong Shirongzhaoye has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth.

Summary

On the whole, we feel that the performance shown by Guangdong Shirongzhaoye can be open to many interpretations. 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. Our risks dashboard would have the 3 risks we have identified for Guangdong Shirongzhaoye.

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.

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