Is Wenzhou Yihua Connector Co., Ltd.'s (SZSE:002897) Recent Stock Performance Tethered To Its Strong Fundamentals?

Simply Wall St · 09/28 02:10

Most readers would already be aware that Wenzhou Yihua Connector's (SZSE:002897) stock increased significantly by 12% over the past week. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Specifically, we decided to study Wenzhou Yihua Connector's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Wenzhou Yihua Connector

How Do You 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 Wenzhou Yihua Connector is:

9.1% = CN¥229m ÷ CN¥2.5b (Based on the trailing twelve months to June 2024).

The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.09 in profit.

Why Is ROE Important For Earnings Growth?

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

Wenzhou Yihua Connector's Earnings Growth And 9.1% ROE

At first glance, Wenzhou Yihua Connector's ROE doesn't look very promising. However, the fact that the its ROE is quite higher to the industry average of 6.4% doesn't go unnoticed by us. This certainly adds some context to Wenzhou Yihua Connector's moderate 16% net income growth seen over the past five years. That being said, the company does have a slightly low ROE to begin with, just that it is higher than the industry average. Hence there might be some other aspects that are causing earnings to grow. For example, it is possible that the broader industry is going through a high growth phase, or that the company has a low payout ratio.

As a next step, we compared Wenzhou Yihua Connector's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 4.8%.

past-earnings-growth
SZSE:002897 Past Earnings Growth September 28th 2024

Earnings growth is an important metric to consider when valuing a stock. 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. If you're wondering about Wenzhou Yihua Connector's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Wenzhou Yihua Connector Using Its Retained Earnings Effectively?

Wenzhou Yihua Connector's three-year median payout ratio to shareholders is 12% (implying that it retains 88% of its income), which is on the lower side, so it seems like the management is reinvesting profits heavily to grow its business.

Additionally, Wenzhou Yihua Connector has paid dividends over a period of six years which means that the company is pretty serious about sharing its profits with shareholders. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 3.4% over the next three years. The fact that the company's ROE is expected to rise to 16% over the same period is explained by the drop in the payout ratio.

Summary

Overall, we are quite pleased with Wenzhou Yihua Connector's performance. In particular, it's great to see that the company has seen significant growth in its earnings backed by a respectable ROE and a high reinvestment rate. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.