Most readers would already know that Vipshop Holdings' (NYSE:VIPS) stock increased by 3.3% over the past three months. 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 Vipshop Holdings' ROE in this article.

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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

How Is ROE Calculated?

ROE 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 Vipshop Holdings is:

21% = CN¥8.2b ÷ CN¥39b (Based on the trailing twelve months to December 2023).

The 'return' is the yearly profit. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.21 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. 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. Assuming all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

Vipshop Holdings' Earnings Growth And 21% ROE

To begin with, Vipshop Holdings seems to have a respectable ROE. Especially when compared to the industry average of 16% the company's ROE looks pretty impressive. Probably as a result of this, Vipshop Holdings was able to see a decent growth of 19% over the last five years.

As a next step, we compared Vipshop Holdings' 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 14%.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. Is VIPS fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Vipshop Holdings Making Efficient Use Of Its Profits?

In Vipshop Holdings' case, its respectable earnings growth can probably be explained by its low three-year median payout ratio of 21% (or a retention ratio of 79%), which suggests that the company is investing most of its profits to grow its business.

Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 16% over the next three years. Regardless, the future ROE for Vipshop Holdings is predicted to decline to 16% despite the anticipated decrease in the payout ratio. We reckon that there could probably be other factors that could be driving the forseen decline in the company's ROE.

Conclusion

Overall, we are quite pleased with Vipshop Holdings' performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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.