Shanghai Pharmaceuticals Holding (SHSE:601607) has had a rough three months with its share price down 9.3%. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Particularly, we will be paying attention to Shanghai Pharmaceuticals Holding's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Shanghai Pharmaceuticals Holding

How To Calculate Return On Equity?

The formula for ROE is:

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

So, based on the above formula, the ROE for Shanghai Pharmaceuticals Holding is:

8.8% = CN¥6.7b ÷ CN¥76b (Based on the trailing twelve months to June 2022).

The 'return' is the yearly profit. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.09 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. Assuming all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

Shanghai Pharmaceuticals Holding's Earnings Growth And 8.8% ROE

When you first look at it, Shanghai Pharmaceuticals Holding's ROE doesn't look that attractive. Yet, a closer study shows that the company's ROE is similar to the industry average of 9.8%. On the other hand, Shanghai Pharmaceuticals Holding reported a moderate 8.9% net income growth over the past five years. Taking into consideration that the ROE is not particularly high, we reckon that there could also be other factors at play which could be influencing the company's growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

We then performed a comparison between Shanghai Pharmaceuticals Holding's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 9.5% in the same period.

Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. Is Shanghai Pharmaceuticals Holding fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Shanghai Pharmaceuticals Holding Making Efficient Use Of Its Profits?

Shanghai Pharmaceuticals Holding has a healthy combination of a moderate three-year median payout ratio of 28% (or a retention ratio of 72%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.

Besides, Shanghai Pharmaceuticals Holding has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 43% over the next three years. Despite the higher expected payout ratio, the company's ROE is not expected to change by much.

Conclusion

In total, it does look like Shanghai Pharmaceuticals Holding has some positive aspects to its business. With a high rate of reinvestment, albeit at a low ROE, the company has managed to see a considerable growth in its earnings. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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.