Do Its Financials Have Any Role To Play In Driving China Electronics Huada Technology Company Limited's (HKG:85) Stock Up Recently?

China Electronics Huada Technology (HKG:85) has had a great run on the share market with its stock up by a significant 53% over the last three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. In this article, we decided to focus on China Electronics Huada Technology's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for China Electronics Huada Technology

How Do You 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 China Electronics Huada Technology is:

10.0% = HK$127m ÷ HK$1.3b (Based on the trailing twelve months to December 2021).

The 'return' is the yearly profit. One way to conceptualize this is that for each HK$1 of shareholders' capital it has, the company made HK$0.10 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

China Electronics Huada Technology's Earnings Growth And 10.0% ROE

To start with, China Electronics Huada Technology's ROE looks acceptable. Further, the company's ROE is similar to the industry average of 10.0%. As you might expect, the 61% net income decline reported by China Electronics Huada Technology is a bit of a surprise. We reckon that there could be some other factors at play here that are preventing the company's growth. These include low earnings retention or poor allocation of capital.

However, when we compared China Electronics Huada Technology's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 19% in the same period. This is quite worrisome.

Earnings growth is an important metric to consider when valuing a stock. 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 China Electronics Huada Technology's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is China Electronics Huada Technology Efficiently Re-investing Its Profits?

Despite having a normal three-year median payout ratio of 31% (where it is retaining 69% of its profits), China Electronics Huada Technology has seen a decline in earnings as we saw above. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Moreover, China Electronics Huada Technology has been paying dividends for eight 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.

Conclusion

On the whole, we do feel that China Electronics Huada Technology has some positive attributes. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its growth. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. To know the 2 risks we have identified for China Electronics Huada Technology 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.