Most readers would already be aware that Guangdong Huate Gas' (SHSE:688268) stock increased significantly by 13% over the past 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. Specifically, we decided to study Guangdong Huate Gas' ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for Guangdong Huate Gas

How Is ROE Calculated?

Return on equity can be calculated by using the formula:

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

So, based on the above formula, the ROE for Guangdong Huate Gas is:

9.8% = CN¥141m ÷ CN¥1.4b (Based on the trailing twelve months to March 2022).

The 'return' is the yearly profit. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.10.

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 Guangdong Huate Gas' Earnings Growth And 9.8% ROE

On the face of it, Guangdong Huate Gas' ROE is not much to talk about. Yet, a closer study shows that the company's ROE is similar to the industry average of 10%. Particularly, the exceptional 22% net income growth seen by Guangdong Huate Gas over the past five years is pretty remarkable. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this growth. Such as - high earnings retention or an efficient management in place.

We then performed a comparison between Guangdong Huate Gas' net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 19% in the same period.

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. Doing so will help them establish if the stock's future looks promising or ominous. Is Guangdong Huate Gas fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Guangdong Huate Gas Making Efficient Use Of Its Profits?

Guangdong Huate Gas' three-year median payout ratio is a pretty moderate 32%, meaning the company retains 68% of its income. By the looks of it, the dividend is well covered and Guangdong Huate Gas is reinvesting its profits efficiently as evidenced by its exceptional growth which we discussed above.

While Guangdong Huate Gas has seen growth in its earnings, it only recently started to pay a dividend. It is most likely that the company decided to impress new and existing shareholders with a dividend. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 21% over the next three years. As a result, the expected drop in Guangdong Huate Gas' payout ratio explains the anticipated rise in the company's future ROE to 14%, over the same period.

Conclusion

In total, it does look like Guangdong Huate Gas has some positive aspects to its business. Despite its low rate of return, the fact that the company reinvests a very high portion of its profits into its business, no doubt contributed to its high earnings growth. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.