What are the early trends we should look for to identify a stock that could multiply in value over the long term? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Speaking of which, we noticed some great changes in Guizhou Chanhen Chemical's (SZSE:002895) returns on capital, so let's have a look.
What Is Return On Capital Employed (ROCE)?
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for Guizhou Chanhen Chemical:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.11 = CN¥1.1b ÷ (CN¥12b - CN¥2.4b) (Based on the trailing twelve months to March 2024).
Thus, Guizhou Chanhen Chemical has an ROCE of 11%. In absolute terms, that's a satisfactory return, but compared to the Chemicals industry average of 5.7% it's much better.
In the above chart we have measured Guizhou Chanhen Chemical's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Guizhou Chanhen Chemical for free.
The Trend Of ROCE
The trends we've noticed at Guizhou Chanhen Chemical are quite reassuring. The data shows that returns on capital have increased substantially over the last five years to 11%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 357%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.
In Conclusion...
To sum it up, Guizhou Chanhen Chemical has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And with a respectable 80% awarded to those who held the stock over the last five years, you could argue that these developments are starting to get the attention they deserve. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.
Like most companies, Guizhou Chanhen Chemical does come with some risks, and we've found 2 warning signs that you should be aware of.
While Guizhou Chanhen Chemical isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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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.