Espressif Systems (Shanghai) Co., Ltd.'s (SHSE:688018) Stock Is Going Strong: Have Financials A Role To Play?

Espressif Systems (Shanghai) (SHSE:688018) has had a great run on the share market with its stock up by a significant 133% over the last three months. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. In this article, we decided to focus on Espressif Systems (Shanghai)'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. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for Espressif Systems (Shanghai)

How Do You Calculate Return On Equity?

ROE 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 Espressif Systems (Shanghai) is:

15% = CN¥301m ÷ CN¥2.1b (Based on the trailing twelve months to September 2024).

The 'return' is the profit over the last twelve months. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.15 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. 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.

Espressif Systems (Shanghai)'s Earnings Growth And 15% ROE

To begin with, Espressif Systems (Shanghai) seems to have a respectable ROE. Especially when compared to the industry average of 6.4% the company's ROE looks pretty impressive. This certainly adds some context to Espressif Systems (Shanghai)'s decent 6.2% net income growth seen over the past five years.

We then compared Espressif Systems (Shanghai)'s net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 14% in the same 5-year period, which is a bit concerning.

Earnings growth is an important metric to consider when valuing a stock. 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. Is Espressif Systems (Shanghai) fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Espressif Systems (Shanghai) Making Efficient Use Of Its Profits?

The high three-year median payout ratio of 59% (or a retention ratio of 41%) for Espressif Systems (Shanghai) suggests that the company's growth wasn't really hampered despite it returning most of its income to its shareholders.

Additionally, Espressif Systems (Shanghai) has paid dividends over a period of five years which means that the company is pretty serious about sharing its profits with 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 51%. Still, forecasts suggest that Espressif Systems (Shanghai)'s future ROE will rise to 19% even though the the company's payout ratio is not expected to change by much.

Summary

Overall, we feel that Espressif Systems (Shanghai) certainly does have some positive factors to consider. Its earnings growth is decent, and the high ROE does contribute to that growth. However, investors could have benefitted even more from the high ROE, had the company been reinvesting more of its earnings. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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.