Will Weakness in Guizhou Zhenhua Fengguang Semiconductor Co., Ltd.'s (SHSE:688439) Stock Prove Temporary Given Strong Fundamentals?

It is hard to get excited after looking at Guizhou Zhenhua Fengguang Semiconductor's (SHSE:688439) recent performance, when its stock has declined 24% over the past three months. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Guizhou Zhenhua Fengguang Semiconductor's ROE.

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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Guizhou Zhenhua Fengguang Semiconductor

How To 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 Guizhou Zhenhua Fengguang Semiconductor is:

11% = CN¥558m ÷ CN¥4.9b (Based on the trailing twelve months to June 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¥0.11 in profit.

Why Is ROE Important For 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.

Guizhou Zhenhua Fengguang Semiconductor's Earnings Growth And 11% ROE

To begin with, Guizhou Zhenhua Fengguang Semiconductor seems to have a respectable ROE. Especially when compared to the industry average of 5.9% the company's ROE looks pretty impressive. This probably laid the ground for Guizhou Zhenhua Fengguang Semiconductor's significant 40% net income growth seen over the past five years. However, there could also be other causes behind this growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

We then compared Guizhou Zhenhua Fengguang Semiconductor's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 17% in the same 5-year period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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 Guizhou Zhenhua Fengguang Semiconductor is trading on a high P/E or a low P/E, relative to its industry.

Is Guizhou Zhenhua Fengguang Semiconductor Making Efficient Use Of Its Profits?

Guizhou Zhenhua Fengguang Semiconductor has a really low three-year median payout ratio of 21%, meaning that it has the remaining 79% left over to reinvest into its business. This suggests that the management is reinvesting most of the profits to grow the business as evidenced by the growth seen by the company.

While Guizhou Zhenhua Fengguang Semiconductor has seen growth in its earnings, it only recently started to pay a dividend. It is most likely that the company decided to impress new and existing shareholders with a dividend.

Summary

In total, we are pretty happy with Guizhou Zhenhua Fengguang Semiconductor's performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. 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.