Most readers would already be aware that Yunnan Lincang Xinyuan Germanium IndustryLTD's (SZSE:002428) stock increased significantly by 14% over the past week. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. In this article, we decided to focus on Yunnan Lincang Xinyuan Germanium IndustryLTD'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 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 Yunnan Lincang Xinyuan Germanium IndustryLTD is:

0.6% = CN¥9.6m ÷ CN¥1.5b (Based on the trailing twelve months to December 2023).

The 'return' is the income the business earned over the last year. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.01.

What Is The Relationship Between ROE And Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

Yunnan Lincang Xinyuan Germanium IndustryLTD's Earnings Growth And 0.6% ROE

It is hard to argue that Yunnan Lincang Xinyuan Germanium IndustryLTD's ROE is much good in and of itself. Even when compared to the industry average of 7.4%, the ROE figure is pretty disappointing. Therefore, it might not be wrong to say that the five year net income decline of 17% seen by Yunnan Lincang Xinyuan Germanium IndustryLTD was possibly a result of it having a lower ROE. We reckon that there could also be other factors at play here. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

That being said, we compared Yunnan Lincang Xinyuan Germanium IndustryLTD's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate 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). 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 Yunnan Lincang Xinyuan Germanium IndustryLTD is trading on a high P/E or a low P/E, relative to its industry.

Is Yunnan Lincang Xinyuan Germanium IndustryLTD Making Efficient Use Of Its Profits?

Yunnan Lincang Xinyuan Germanium IndustryLTD doesn't pay any dividend, meaning that potentially all of its profits are being reinvested in the business, which doesn't explain why the company's earnings have shrunk if it is retaining all of its profits. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Summary

On the whole, we feel that the performance shown by Yunnan Lincang Xinyuan Germanium IndustryLTD can be open to many interpretations. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts 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.