Most readers would already know that Chengdu Leejun Industrial's (SZSE:002651) stock increased by 7.3% over the past three months. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Specifically, we decided to study Chengdu Leejun Industrial's ROE in this article.

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.

View our latest analysis for Chengdu Leejun Industrial

How Is ROE Calculated?

ROE 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 Chengdu Leejun Industrial is:

7.8% = CN¥191m ÷ CN¥2.5b (Based on the trailing twelve months to March 2022).

The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.08 in profit.

What Is The Relationship Between ROE And 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.

Chengdu Leejun Industrial's Earnings Growth And 7.8% ROE

On the face of it, Chengdu Leejun Industrial's ROE is not much to talk about. However, given that the company's ROE is similar to the average industry ROE of 8.2%, we may spare it some thought. Even so, Chengdu Leejun Industrial has shown a fairly decent growth in its net income which grew at a rate of 16%. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this growth. For instance, the company has a low payout ratio or is being managed efficiently.

We then performed a comparison between Chengdu Leejun Industrial's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 14% in the same period.

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. Doing so will help them establish if the stock's future looks promising or ominous. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Chengdu Leejun Industrial is trading on a high P/E or a low P/E, relative to its industry.

Is Chengdu Leejun Industrial Efficiently Re-investing Its Profits?

With a three-year median payout ratio of 50% (implying that the company retains 50% of its profits), it seems that Chengdu Leejun Industrial is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Besides, Chengdu Leejun Industrial has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders.

Conclusion

Overall, we feel that Chengdu Leejun Industrial certainly does have some positive factors to consider. 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. 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. You can see the 1 risk we have identified for Chengdu Leejun Industrial by visiting our risks dashboard for free on our platform here.

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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.