Sunny Optical Technology (Group) Company Limited's (HKG:2382) Stock is Soaring But Financials Seem Inconsistent: Will The Uptrend Continue?

Sunny Optical Technology (Group)'s (HKG:2382) stock is up by a considerable 58% over the past 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. In this article, we decided to focus on Sunny Optical Technology (Group)'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Sunny Optical Technology (Group)

How Is ROE Calculated?

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 Sunny Optical Technology (Group) is:

7.6% = CN¥1.8b ÷ CN¥24b (Based on the trailing twelve months to June 2024).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each HK$1 of shareholders' capital it has, the company made HK$0.08 in profit.

What Has ROE Got To Do With 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.

Sunny Optical Technology (Group)'s Earnings Growth And 7.6% ROE

On the face of it, Sunny Optical Technology (Group)'s ROE is not much to talk about. However, its ROE is similar to the industry average of 7.7%, so we won't completely dismiss the company. But Sunny Optical Technology (Group) saw a five year net income decline of 19% over the past five years. Bear in mind, the company does have a slightly low ROE. Hence, this goes some way in explaining the shrinking earnings.

However, when we compared Sunny Optical Technology (Group)'s growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 2.7% in the same period. This is quite worrisome.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Sunny Optical Technology (Group)'s's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Sunny Optical Technology (Group) Making Efficient Use Of Its Profits?

Sunny Optical Technology (Group)'s low three-year median payout ratio of 21% (implying that it retains the remaining 79% of its profits) comes as a surprise when you pair it with the shrinking earnings. This typically shouldn't be the case when a company is retaining most of its earnings. So there might be other factors at play here which could potentially be hampering growth. For instance, the business has faced some headwinds.

Moreover, Sunny Optical Technology (Group) has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 27% over the next three years. However, Sunny Optical Technology (Group)'s future ROE is expected to rise to 13% despite the expected increase in the company's payout ratio. We infer that there could be other factors that could be driving the anticipated growth in the company's ROE.

Conclusion

Overall, we have mixed feelings about Sunny Optical Technology (Group). 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. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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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.