Zhejiang Expressway Co., Ltd.'s (HKG:576) Stock On An Uptrend: Could Fundamentals Be Driving The Momentum?

Most readers would already be aware that Zhejiang Expressway's (HKG:576) stock increased significantly by 14% over the past three months. 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. Particularly, we will be paying attention to Zhejiang Expressway's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Zhejiang Expressway

How Is ROE Calculated?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Zhejiang Expressway is:

9.1% = CN¥3.3b ÷ CN¥36b (Based on the trailing twelve months to September 2020).

The 'return' refers to a company's earnings over the last year. That means that for every HK$1 worth of shareholders' equity, the company generated HK$0.09 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. 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.

Zhejiang Expressway's Earnings Growth And 9.1% ROE

When you first look at it, Zhejiang Expressway's ROE doesn't look that attractive. Although a closer study shows that the company's ROE is higher than the industry average of 5.8% which we definitely can't overlook. However, Zhejiang Expressway's five year net income growth was quite low averaging at only 2.2%. Bear in mind, the company does have a low ROE. It is just that the industry ROE is lower. So that could be one of the factors that are causing earnings growth to stay low.

We then compared Zhejiang Expressway's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 4.6% in the same period, which is a bit concerning.

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. Is 576 fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Zhejiang Expressway Making Efficient Use Of Its Profits?

While Zhejiang Expressway has a decent three-year median payout ratio of 46% (or a retention ratio of 54%), it has seen very little growth in earnings. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Moreover, Zhejiang Expressway 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. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 37%. However, Zhejiang Expressway's ROE is predicted to rise to 15% despite there being no anticipated change in its payout ratio.

Conclusion

On the whole, we do feel that Zhejiang Expressway has some positive attributes. Although, we are disappointed to see a lack of growth in earnings even in spite of a moderate ROE and and a high reinvestment rate. We believe that there might be some outside factors that could be having a negative impact on the business. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. 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. 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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