With its stock down 10% over the past three months, it is easy to disregard Inner Mongolia Yuan Xing Energy (SZSE:000683). However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. In this article, we decided to focus on Inner Mongolia Yuan Xing Energy'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.

How Is ROE Calculated?

The formula for return on equity is:

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

So, based on the above formula, the ROE for Inner Mongolia Yuan Xing Energy is:

13% = CN¥2.3b ÷ CN¥18b (Based on the trailing twelve months to September 2023).

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¥0.13 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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. 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.

Inner Mongolia Yuan Xing Energy's Earnings Growth And 13% ROE

To begin with, Inner Mongolia Yuan Xing Energy seems to have a respectable ROE. On comparing with the average industry ROE of 6.8% the company's ROE looks pretty remarkable. This probably laid the ground for Inner Mongolia Yuan Xing Energy's significant 33% net income growth seen over the past five years. However, there could also be other causes behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.

As a next step, we compared Inner Mongolia Yuan Xing Energy's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 12%.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Inner Mongolia Yuan Xing Energy is trading on a high P/E or a low P/E, relative to its industry.

Is Inner Mongolia Yuan Xing Energy Making Efficient Use Of Its Profits?

Inner Mongolia Yuan Xing Energy's ' three-year median payout ratio is on the lower side at 14% implying that it is retaining a higher percentage (86%) of its profits. So it seems like the management is reinvesting profits heavily to grow its business and this reflects in its earnings growth number.

Additionally, Inner Mongolia Yuan Xing Energy has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders.

Conclusion

In total, we are pretty happy with Inner Mongolia Yuan Xing Energy's performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings. The latest industry analyst forecasts show that the company is expected to maintain its current growth rate. 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.