Giga Device Semiconductor (SHSE:603986) has had a rough three months with its share price down 15%. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. In this article, we decided to focus on Giga Device Semiconductor'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. 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 Giga Device Semiconductor is:

2.5% = CN¥394m ÷ CN¥16b (Based on the trailing twelve months to September 2023).

The 'return' is the yearly profit. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.03.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

Giga Device Semiconductor's Earnings Growth And 2.5% ROE

It is quite clear that Giga Device Semiconductor's ROE is rather low. Not just that, even compared to the industry average of 6.3%, the company's ROE is entirely unremarkable. In spite of this, Giga Device Semiconductor was able to grow its net income considerably, at a rate of 28% in the last five years. We reckon that there could be other factors at play here. Such as - high earnings retention or an efficient management in place.

As a next step, we compared Giga Device Semiconductor'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 26% 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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Giga Device Semiconductor fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Giga Device Semiconductor Using Its Retained Earnings Effectively?

Giga Device Semiconductor has a three-year median payout ratio of 26% (where it is retaining 74% of its income) which is not too low or not too high. So it seems that Giga Device Semiconductor is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

Moreover, Giga Device Semiconductor is determined to keep sharing its profits with shareholders which we infer from its long history of seven years of paying a dividend. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 28%. Regardless, the future ROE for Giga Device Semiconductor is predicted to rise to 11% despite there being not much change expected in its payout ratio.

Conclusion

In total, it does look like Giga Device Semiconductor has some positive aspects to its business. Despite its low rate of return, the fact that the company reinvests a very high portion of its profits into its business, no doubt contributed to its high earnings growth. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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.