Can Mixed Fundamentals Have A Negative Impact on Shenzhen Chuangyitong Technology Co.,Ltd. (SZSE:300991) Current Share Price Momentum?

Shenzhen Chuangyitong TechnologyLtd (SZSE:300991) has had a great run on the share market with its stock up by a significant 12% over the last week. But the company's key financial indicators appear to be differing across the board and that makes us question whether or not the company's current share price momentum can be maintained. Specifically, we decided to study Shenzhen Chuangyitong 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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Shenzhen Chuangyitong TechnologyLtd

How Is ROE Calculated?

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 Shenzhen Chuangyitong TechnologyLtd is:

2.3% = CN¥15m ÷ CN¥641m (Based on the trailing twelve months to September 2024).

The 'return' is the amount earned after tax 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¥0.02 in profit.

What Is The Relationship Between ROE And Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.

Shenzhen Chuangyitong TechnologyLtd's Earnings Growth And 2.3% ROE

It is hard to argue that Shenzhen Chuangyitong TechnologyLtd's ROE is much good in and of itself. Not just that, even compared to the industry average of 6.3%, the company's ROE is entirely unremarkable. For this reason, Shenzhen Chuangyitong TechnologyLtd's five year net income decline of 51% is not surprising given its lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

So, as a next step, we compared Shenzhen Chuangyitong TechnologyLtd's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 3.9% over the last few years.

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). 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 Shenzhen Chuangyitong TechnologyLtd is trading on a high P/E or a low P/E, relative to its industry.

Is Shenzhen Chuangyitong TechnologyLtd Using Its Retained Earnings Effectively?

In spite of a normal three-year median payout ratio of 29% (that is, a retention ratio of 71%), the fact that Shenzhen Chuangyitong TechnologyLtd's earnings have shrunk is quite puzzling. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Additionally, Shenzhen Chuangyitong TechnologyLtd has paid dividends over a period of three years, which means that the company's management is rather focused on keeping up its dividend payments, regardless of the shrinking earnings.

Conclusion

Overall, we have mixed feelings about Shenzhen Chuangyitong TechnologyLtd. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. 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. Our risks dashboard would have the 3 risks we have identified for Shenzhen Chuangyitong TechnologyLtd.

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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.