Is CSI Solar Co., Ltd.'s (SHSE:688472) Stock's Recent Performance Being Led By Its Attractive Financial Prospects?

Most readers would already be aware that CSI Solar's (SHSE:688472) stock increased significantly by 19% over the past three months. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. Specifically, we decided to study CSI Solar's ROE in this article.

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.

View our latest analysis for CSI Solar

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 CSI Solar is:

10% = CN¥2.2b ÷ CN¥22b (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¥0.10 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. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

CSI Solar's Earnings Growth And 10% ROE

At first glance, CSI Solar's ROE doesn't look very promising. Although a closer study shows that the company's ROE is higher than the industry average of 5.9% which we definitely can't overlook. Consequently, this likely laid the ground for the decent growth of 17% seen over the past five years by CSI Solar. That being said, the company does have a slightly low ROE to begin with, just that it is higher than the industry average. Hence there might be some other aspects that are causing earnings to grow. For example, it is possible that the broader industry is going through a high growth phase, or that the company has a low payout ratio.

We then performed a comparison between CSI Solar's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 17% in the same 5-year period.

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 CSI Solar's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is CSI Solar Making Efficient Use Of Its Profits?

In CSI Solar's case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 17% (or a retention ratio of 83%), which suggests that the company is investing most of its profits to grow its business.

Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 12% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 15%, over the same period.

Conclusion

In total, we are pretty happy with CSI Solar's performance. Specifically, we like that it has been reinvesting a high portion of its profits at a moderate rate of return, resulting in earnings expansion. 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.

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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.