With its stock down 13% over the past three months, it is easy to disregard Shanghai Hollywave Electronic System (SHSE:688682). However, stock prices are usually driven by a company's financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Shanghai Hollywave Electronic System's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors' money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for Shanghai Hollywave Electronic System

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 Hollywave Electronic System is:

9.1% = CN¥61m ÷ CN¥674m (Based on the trailing twelve months to June 2023).

The 'return' is the profit over the last twelve months. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.09 in profit.

What Has ROE Got To Do With 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 Hollywave Electronic System's Earnings Growth And 9.1% ROE

When you first look at it, Shanghai Hollywave Electronic System's ROE doesn't look that attractive. However, the fact that the company's ROE is higher than the average industry ROE of 5.4%, is definitely interesting. This probably goes some way in explaining Shanghai Hollywave Electronic System's moderate 12% growth over the past five years amongst other factors. Bear in mind, the company does have a moderately low ROE. It is just that the industry ROE is lower. Therefore, the growth in earnings could also be the result of other factors. E.g the company has a low payout ratio or could belong to a high growth industry.

Next, on comparing with the industry net income growth, we found that Shanghai Hollywave Electronic System's growth is quite high when compared to the industry average growth of 9.8% in the same period, which is great to see.

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. If you're wondering about Shanghai Hollywave Electronic System's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Shanghai Hollywave Electronic System Making Efficient Use Of Its Profits?

With a three-year median payout ratio of 31% (implying that the company retains 69% of its profits), it seems that Shanghai Hollywave Electronic System is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

While Shanghai Hollywave Electronic System 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.

Summary

On the whole, we feel that Shanghai Hollywave Electronic System's performance has been quite good. Specifically, we like that it has been reinvesting a high portion of its profits at a moderate rate of return, resulting in earnings expansion. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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.