It is hard to get excited after looking at Shenzhen YHLO Biotech's (SHSE:688575) recent performance, when its stock has declined 14% over the past three months. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Particularly, we will be paying attention to Shenzhen YHLO Biotech's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

See our latest analysis for Shenzhen YHLO Biotech

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 Shenzhen YHLO Biotech is:

23% = CN¥581m ÷ CN¥2.5b (Based on the trailing twelve months to March 2023).

The 'return' refers to a company's earnings over the last year. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.23 in profit.

What Is The Relationship Between ROE And 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.

Shenzhen YHLO Biotech's Earnings Growth And 23% ROE

To begin with, Shenzhen YHLO Biotech has a pretty high ROE which is interesting. Second, a comparison with the average ROE reported by the industry of 12% also doesn't go unnoticed by us. So, the substantial 51% net income growth seen by Shenzhen YHLO Biotech over the past five years isn't overly surprising.

Next, on comparing with the industry net income growth, we found that Shenzhen YHLO Biotech's growth is quite high when compared to the industry average growth of 20% in the same period, which is great to see.

Earnings growth is a huge factor in stock valuation. 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. Is Shenzhen YHLO Biotech fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Shenzhen YHLO Biotech Efficiently Re-investing Its Profits?

Shenzhen YHLO Biotech has a really low three-year median payout ratio of 24%, meaning that it has the remaining 76% left over to reinvest into its business. This suggests that the management is reinvesting most of the profits to grow the business as evidenced by the growth seen by the company.

Along with seeing a growth in earnings, Shenzhen YHLO Biotech only recently started paying dividends. Its quite possible that the company was looking to impress its shareholders.

Summary

Overall, we are quite pleased with Shenzhen YHLO Biotech's 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. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Not to forget, share price outcomes are also dependent on the potential risks a company may face. So it is important for investors to be aware of the risks involved in the business. Our risks dashboard would have the 3 risks we have identified for Shenzhen YHLO Biotech.

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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.