China Shenhua Energy (HKG:1088) has had a great run on the share market with its stock up by a significant 13% over the last month. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. In this article, we decided to focus on China Shenhua Energy's ROE.
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. Put another way, it reveals the company's success at turning shareholder investments into profits.
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 China Shenhua Energy is:
17% = CN¥79b ÷ CN¥455b (Based on the trailing twelve months to June 2023).
The 'return' is the income the business earned over the last year. That means that for every HK$1 worth of shareholders' equity, the company generated HK$0.17 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. 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.
A Side By Side comparison of China Shenhua Energy's Earnings Growth And 17% ROE
At first glance, China Shenhua Energy seems to have a decent ROE. Further, the company's ROE compares quite favorably to the industry average of 11%. This certainly adds some context to China Shenhua Energy's decent 12% net income growth seen over the past five years.
Next, on comparing with the industry net income growth, we found that China Shenhua Energy's reported growth was lower than the industry growth of 28% over the last few years, which is not something we like to see.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. What is 1088 worth today? The intrinsic value infographic in our free research report helps visualize whether 1088 is currently mispriced by the market.
Is China Shenhua Energy Efficiently Re-investing Its Profits?
The high three-year median payout ratio of 75% (or a retention ratio of 25%) for China Shenhua Energy suggests that the company's growth wasn't really hampered despite it returning most of its income to its shareholders.
Additionally, China Shenhua Energy 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. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 73% of its profits over the next three years. However, China Shenhua Energy's future ROE is expected to decline to 13% despite there being not much change anticipated in the company's payout ratio.
On the whole, we do feel that China Shenhua Energy has some positive attributes. Its earnings have grown respectably as we saw earlier, which was likely due to the company reinvesting its earnings at a pretty high rate of return. However, given the high ROE, we do think that the company is reinvesting a small portion of its profits. This could likely be preventing the company from growing to its full extent. Having said that, on studying current analyst estimates, we were concerned to see that while the company has grown its earnings in the past, analysts expect its earnings to shrink in the future. 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.
Valuation is complex, but we're helping make it simple.
Find out whether China Shenhua Energy is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.View the Free Analysis
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.
China Shenhua Energy
China Shenhua Energy Company Limited, together with its subsidiaries, engages in the production and sale of coal and power; railway, port, and shipping transportation; and coal-to-olefins businesses in the People’s Republic of China and internationally.
Flawless balance sheet, good value and pays a dividend.