Could The Market Be Wrong About Hongli Zhihui Group Co.,Ltd. (SZSE:300219) Given Its Attractive Financial Prospects?

With its stock down 15% over the past three months, it is easy to disregard Hongli Zhihui GroupLtd (SZSE:300219). 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 Hongli Zhihui GroupLtd'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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for Hongli Zhihui GroupLtd

How To Calculate Return On Equity?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Hongli Zhihui GroupLtd is:

7.5% = CN¥194m ÷ CN¥2.6b (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¥0.07 in profit.

What Is The Relationship Between ROE And Earnings Growth?

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

Hongli Zhihui GroupLtd's Earnings Growth And 7.5% ROE

When you first look at it, Hongli Zhihui GroupLtd's ROE doesn't look that attractive. However, the fact that the its ROE is quite higher to the industry average of 5.8% doesn't go unnoticed by us. Especially when you consider Hongli Zhihui GroupLtd's exceptional 57% net income growth over the past five years. That being said, the company does have a slightly low ROE to begin with, just that it is higher than the industry average. Therefore, the growth in earnings could also be the result of other factors. 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 compared Hongli Zhihui GroupLtd'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 20% 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. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Hongli Zhihui GroupLtd's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Hongli Zhihui GroupLtd Efficiently Re-investing Its Profits?

Hongli Zhihui GroupLtd's three-year median payout ratio is a pretty moderate 35%, meaning the company retains 65% of its income. So it seems that Hongli Zhihui GroupLtd is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

Additionally, Hongli Zhihui GroupLtd has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders.

Summary

Overall, we are quite pleased with Hongli Zhihui GroupLtd'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. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. To know the 2 risks we have identified for Hongli Zhihui GroupLtd visit our risks dashboard for free.

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