Zhejiang Huahai Pharmaceutical (SHSE:600521) has had a rough three months with its share price down 11%. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Particularly, we will be paying attention to Zhejiang Huahai Pharmaceutical's ROE today.

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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Zhejiang Huahai Pharmaceutical

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 Zhejiang Huahai Pharmaceutical is:

9.4% = CN¥691m ÷ CN¥7.3b (Based on the trailing twelve months to September 2022).

The 'return' is the yearly profit. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.09.

What Has ROE Got To Do With 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. 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.

Zhejiang Huahai Pharmaceutical's Earnings Growth And 9.4% ROE

At first glance, Zhejiang Huahai Pharmaceutical's ROE doesn't look very promising. However, its ROE is similar to the industry average of 8.4%, so we won't completely dismiss the company. Having said that, Zhejiang Huahai Pharmaceutical has shown a modest net income growth of 8.6% over the past five years. Considering the moderately low ROE, it is quite possible that there might be some other aspects that are positively influencing the company's earnings growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

Next, on comparing Zhejiang Huahai Pharmaceutical's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 9.1% in the same period.

Earnings growth is a huge factor in stock valuation. 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 Zhejiang Huahai Pharmaceutical's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Zhejiang Huahai Pharmaceutical Efficiently Re-investing Its Profits?

With a three-year median payout ratio of 31% (implying that the company retains 69% of its profits), it seems that Zhejiang Huahai Pharmaceutical is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Besides, Zhejiang Huahai Pharmaceutical has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 22% over the next three years. As a result, the expected drop in Zhejiang Huahai Pharmaceutical's payout ratio explains the anticipated rise in the company's future ROE to 20%, over the same period.

Conclusion

In total, it does look like Zhejiang Huahai Pharmaceutical has some positive aspects to its business. 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. 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.