It is hard to get excited after looking at Kunshan Dongwei TechnologyLtd's (SHSE:688700) recent performance, when its stock has declined 37% over the past three months. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Particularly, we will be paying attention to Kunshan Dongwei TechnologyLtd's ROE today.

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?

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 Kunshan Dongwei TechnologyLtd is:

8.9% = CN¥155m ÷ CN¥1.7b (Based on the trailing twelve months to December 2023).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each CN¥1 of shareholders' capital it has, the company made CN¥0.09 in profit.

What Has ROE Got To Do With 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. 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.

Kunshan Dongwei TechnologyLtd's Earnings Growth And 8.9% ROE

On the face of it, Kunshan Dongwei TechnologyLtd's ROE is not much to talk about. However, its ROE is similar to the industry average of 7.4%, so we won't completely dismiss the company. Looking at Kunshan Dongwei TechnologyLtd's exceptional 24% five-year net income growth in particular, we are definitely impressed. Taking into consideration that the ROE is not particularly high, we reckon that there could also be other factors at play which could be influencing the company's growth. For instance, the company has a low payout ratio or is being managed efficiently.

We then compared Kunshan Dongwei TechnologyLtd's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 11% in the same 5-year period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about Kunshan Dongwei TechnologyLtd's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Kunshan Dongwei TechnologyLtd Using Its Retained Earnings Effectively?

The three-year median payout ratio for Kunshan Dongwei TechnologyLtd is 26%, which is moderately low. The company is retaining the remaining 74%. So it seems that Kunshan Dongwei TechnologyLtd is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

While Kunshan Dongwei TechnologyLtd has seen growth in its earnings, it only recently started to pay a dividend. It is most likely that the company decided to impress new and existing shareholders with a dividend. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 28% of its profits over the next three years. However, Kunshan Dongwei TechnologyLtd's ROE is predicted to rise to 26% despite there being no anticipated change in its payout ratio.

Conclusion

Overall, we feel that Kunshan Dongwei TechnologyLtd 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. 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.