Weichai Power (HKG:2338) has had a great run on the share market with its stock up by a significant 18% over the last three months. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Particularly, we will be paying attention to Weichai Power's ROE today.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
Our free stock report includes 1 warning sign investors should be aware of before investing in Weichai Power. Read for free now.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 Weichai Power is:
11% = CN¥14b ÷ CN¥125b (Based on the trailing twelve months to March 2025).
The 'return' is the yearly profit. Another way to think of that is that for every HK$1 worth of equity, the company was able to earn HK$0.11 in profit.
View our latest analysis for Weichai Power
Why Is ROE Important For Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.
Weichai Power's Earnings Growth And 11% ROE
To begin with, Weichai Power seems to have a respectable ROE. Especially when compared to the industry average of 8.4% the company's ROE looks pretty impressive. However, for some reason, the higher returns aren't reflected in Weichai Power's meagre five year net income growth average of 2.8%. This is generally not the case as when a company has a high rate of return it should usually also have a high earnings growth rate. We reckon that a low growth, when returns are quite high could be the result of certain circumstances like low earnings retention or poor allocation of capital.
Next, on comparing with the industry net income growth, we found that Weichai Power's reported growth was lower than the industry growth of 10.0% over the last few years, which is not something we like to see.
Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. 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 Weichai Power is trading on a high P/E or a low P/E, relative to its industry.
Is Weichai Power Making Efficient Use Of Its Profits?
While Weichai Power has a decent three-year median payout ratio of 50% (or a retention ratio of 50%), it has seen very little growth in earnings. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.
Moreover, Weichai Power has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 54%. Still, forecasts suggest that Weichai Power's future ROE will rise to 14% even though the the company's payout ratio is not expected to change by much.
Conclusion
On the whole, we do feel that Weichai Power has some positive attributes. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its growth. 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 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.