Is Zhongzhi Pharmaceutical Holdings Limited's(HKG:3737) Recent Stock Performance Tethered To Its Strong Fundamentals?

Zhongzhi Pharmaceutical Holdings' (HKG:3737) stock is up by a considerable 9.5% over the past week. 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. In this article, we decided to focus on Zhongzhi Pharmaceutical Holdings' ROE.

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.

Check out our latest analysis for Zhongzhi Pharmaceutical Holdings

How To Calculate Return On Equity?

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 Zhongzhi Pharmaceutical Holdings is:

16% = CN¥128m ÷ CN¥803m (Based on the trailing twelve months to June 2020).

The 'return' is the profit over the last twelve months. Another way to think of that is that for every HK$1 worth of equity, the company was able to earn HK$0.16 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. 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 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.

Zhongzhi Pharmaceutical Holdings' Earnings Growth And 16% ROE

At first glance, Zhongzhi Pharmaceutical Holdings seems to have a decent ROE. Especially when compared to the industry average of 9.4% the company's ROE looks pretty impressive. This certainly adds some context to Zhongzhi Pharmaceutical Holdings' decent 11% net income growth seen over the past five years.

Next, on comparing with the industry net income growth, we found that Zhongzhi Pharmaceutical Holdings' growth is quite high when compared to the industry average growth of 7.2% in the same period, which is great 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. If you're wondering about Zhongzhi Pharmaceutical Holdings''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Zhongzhi Pharmaceutical Holdings Efficiently Re-investing Its Profits?

Zhongzhi Pharmaceutical Holdings has a three-year median payout ratio of 39%, which implies that it retains the remaining 61% of its profits. This suggests that its dividend is well covered, and given the decent growth seen by the company, it looks like management is reinvesting its earnings efficiently.

Moreover, Zhongzhi Pharmaceutical Holdings is determined to keep sharing its profits with shareholders which we infer from its long history of five years of paying a dividend.

Summary

Overall, we are quite pleased with Zhongzhi Pharmaceutical Holdings' performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. 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. Not to forget, share price outcomes are also dependent on the potential risks a company may face. So it is important for investors to be aware of the risks involved in the business. To know the 1 risk we have identified for Zhongzhi Pharmaceutical Holdings visit our risks dashboard for free.

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This article by Simply Wall St is general in nature. 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.
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