Senba Sensing Technology Co.,Ltd.'s (SZSE:300701) Stock Is Rallying But Financials Look Ambiguous: Will The Momentum Continue?

Senba Sensing TechnologyLtd (SZSE:300701) has had a great run on the share market with its stock up by a significant 71% over the last three months. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. Specifically, we decided to study Senba Sensing TechnologyLtd's ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Senba Sensing TechnologyLtd

How To 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 Senba Sensing TechnologyLtd is:

6.3% = CN¥62m ÷ CN¥995m (Based on the trailing twelve months to September 2024).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each CN¥1 of shareholders' capital it has, the company made CN¥0.06 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. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

A Side By Side comparison of Senba Sensing TechnologyLtd's Earnings Growth And 6.3% ROE

On the face of it, Senba Sensing TechnologyLtd's ROE is not much to talk about. However, its ROE is similar to the industry average of 6.3%, so we won't completely dismiss the company. Having said that, Senba Sensing TechnologyLtd's five year net income decline rate was 19%. Remember, the company's ROE is a bit low to begin with. So that's what might be causing earnings growth to shrink.

However, when we compared Senba Sensing TechnologyLtd's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 3.9% in the same period. This is quite worrisome.

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. 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 Senba Sensing TechnologyLtd is trading on a high P/E or a low P/E, relative to its industry.

Is Senba Sensing TechnologyLtd Using Its Retained Earnings Effectively?

Looking at its three-year median payout ratio of 37% (or a retention ratio of 63%) which is pretty normal, Senba Sensing TechnologyLtd's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Moreover, Senba Sensing TechnologyLtd has been paying dividends for seven years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer consistent dividends even though earnings have been shrinking.

Summary

On the whole, we feel that the performance shown by Senba Sensing TechnologyLtd can be open to many interpretations. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. 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. To know the 4 risks we have identified for Senba Sensing TechnologyLtd visit our risks dashboard for free.

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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.