To find a multi-bagger stock, what are the underlying trends we should look for in a business? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after briefly looking over the numbers, we don't think Anhui Estone Materials TechnologyLtd (SHSE:688733) has the makings of a multi-bagger going forward, but let's have a look at why that may be.
Understanding 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. The formula for this calculation on Anhui Estone Materials TechnologyLtd is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.0071 = CN¥18m ÷ (CN¥3.0b - CN¥454m) (Based on the trailing twelve months to December 2023).
So, Anhui Estone Materials TechnologyLtd has an ROCE of 0.7%. In absolute terms, that's a low return and it also under-performs the Chemicals industry average of 5.6%.
In the above chart we have measured Anhui Estone Materials TechnologyLtd's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Anhui Estone Materials TechnologyLtd .
What The Trend Of ROCE Can Tell Us
We weren't thrilled with the trend because Anhui Estone Materials TechnologyLtd's ROCE has reduced by 95% over the last five years, while the business employed 1,277% more capital. That being said, Anhui Estone Materials TechnologyLtd raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. The funds raised likely haven't been put to work yet so it's worth watching what happens in the future with Anhui Estone Materials TechnologyLtd's earnings and if they change as a result from the capital raise.
On a related note, Anhui Estone Materials TechnologyLtd has decreased its current liabilities to 15% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.
What We Can Learn From Anhui Estone Materials TechnologyLtd's ROCE
We're a bit apprehensive about Anhui Estone Materials TechnologyLtd because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Long term shareholders who've owned the stock over the last year have experienced a 45% depreciation in their investment, so it appears the market might not like these trends either. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.
Like most companies, Anhui Estone Materials TechnologyLtd does come with some risks, and we've found 2 warning signs that you should be aware of.
While Anhui Estone Materials TechnologyLtd may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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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.