With its stock down 7.0% over the past three months, it is easy to disregard Great Wall Motor (HKG:2333). 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 Great Wall Motor's ROE.
ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. 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?
Return on equity can be calculated by using the formula:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Great Wall Motor is:
11% = CN¥7.0b ÷ CN¥66b (Based on the trailing twelve months to December 2023).
The 'return' is the income the business earned over the last year. That means that for every HK$1 worth of shareholders' equity, the company generated HK$0.11 in profit.
What Is The Relationship Between ROE And Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.
Great Wall Motor's Earnings Growth And 11% ROE
To start with, Great Wall Motor's ROE looks acceptable. Even when compared to the industry average of 13% the company's ROE looks quite decent. This probably goes some way in explaining Great Wall Motor's moderate 12% growth over the past five years amongst other factors.
We then performed a comparison between Great Wall Motor's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 12% in the same 5-year period.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It's important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. 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 Great Wall Motor is trading on a high P/E or a low P/E, relative to its industry.
Is Great Wall Motor Efficiently Re-investing Its Profits?
Great Wall Motor has a three-year median payout ratio of 44%, which implies that it retains the remaining 56% of its profits. This suggests that its dividend is well covered, and given the decent growth seen by the company, it looks like management is reinvesting its earnings efficiently.
Moreover, Great Wall Motor is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 72% over the next three years. However, Great Wall Motor's future ROE is expected to rise to 13% despite the expected increase in the company's payout ratio. We infer that there could be other factors that could be driving the anticipated growth in the company's ROE.
Conclusion
Overall, we are quite pleased with Great Wall Motor's performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. 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.