With its stock down 31% over the past three months, it is easy to disregard Sichuan Chengfei Integration TechnologyLtd (SZSE:002190). It is possible that the markets have ignored the company's differing financials and decided to lean-in to the negative sentiment. Stock prices are usually driven by a company's financial performance over the long term, and therefore we decided to pay more attention to the company's financial performance. In this article, we decided to focus on Sichuan Chengfei Integration TechnologyLtd's ROE.

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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

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 Sichuan Chengfei Integration TechnologyLtd is:

2.4% = CN¥92m ÷ CN¥3.8b (Based on the trailing twelve months to September 2023).

The 'return' is the income the business earned over the last year. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.02.

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. 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.

Sichuan Chengfei Integration TechnologyLtd's Earnings Growth And 2.4% ROE

It is quite clear that Sichuan Chengfei Integration TechnologyLtd's ROE is rather low. Not just that, even compared to the industry average of 7.3%, the company's ROE is entirely unremarkable. For this reason, Sichuan Chengfei Integration TechnologyLtd's five year net income decline of 9.4% is not surprising given its lower ROE. However, there could also be other factors causing the earnings to decline. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

So, as a next step, we compared Sichuan Chengfei Integration TechnologyLtd's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 3.8% over the last few years.

Earnings growth is an important metric to consider when valuing a stock. It's important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Sichuan Chengfei Integration TechnologyLtd fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Sichuan Chengfei Integration TechnologyLtd Efficiently Re-investing Its Profits?

Despite having a normal three-year median payout ratio of 30% (where it is retaining 70% of its profits), Sichuan Chengfei Integration TechnologyLtd has seen a decline in earnings as we saw above. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

In addition, Sichuan Chengfei Integration TechnologyLtd has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.

Summary

Overall, we have mixed feelings about Sichuan Chengfei Integration TechnologyLtd. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. You can see the 1 risk we have identified for Sichuan Chengfei Integration TechnologyLtd 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.