Hwaxin EnvironmentalLtd's (SZSE:301265) stock is up by a considerable 48% over the past month. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. In this article, we decided to focus on Hwaxin EnvironmentalLtd's ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. 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 return on equity is:

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

So, based on the above formula, the ROE for Hwaxin EnvironmentalLtd is:

4.7% = CN¥96m ÷ CN¥2.1b (Based on the trailing twelve months to September 2023).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each CN¥1 of shareholders' capital it has, the company made CN¥0.05 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. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company's earnings growth potential. 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.

A Side By Side comparison of Hwaxin EnvironmentalLtd's Earnings Growth And 4.7% ROE

It is hard to argue that Hwaxin EnvironmentalLtd's ROE is much good in and of itself. Even when compared to the industry average of 6.3%, the ROE figure is pretty disappointing. However, the moderate 6.8% net income growth seen by Hwaxin EnvironmentalLtd over the past five years is definitely a positive. We reckon that there could be other factors at play here. 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.

As a next step, we compared Hwaxin EnvironmentalLtd's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 7.0% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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 Hwaxin EnvironmentalLtd fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Hwaxin EnvironmentalLtd Using Its Retained Earnings Effectively?

With a three-year median payout ratio of 47% (implying that the company retains 53% of its profits), it seems that Hwaxin EnvironmentalLtd is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Along with seeing a growth in earnings, Hwaxin EnvironmentalLtd only recently started paying dividends. Its quite possible that the company was looking to impress its shareholders.

Conclusion

Overall, we feel that Hwaxin EnvironmentalLtd certainly does have some positive factors to consider. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. 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. To know the 3 risks we have identified for Hwaxin EnvironmentalLtd visit our risks dashboard for free.

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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.