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Returns On Capital Signal Tricky Times Ahead For Dalian Insulator Group (SZSE:002606)

Simply Wall St ·  05/26 09:12

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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. Although, when we looked at Dalian Insulator Group (SZSE:002606), it didn't seem to tick all of these boxes.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Dalian Insulator Group:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities )

0.083 = CN¥127m ÷ (CN¥1.8b - CN¥260m) (Based on the trailing twelve months to March 2022).

So, Dalian Insulator Group has an ROCE of 8.3%. On its own that's a low return on capital but it's in line with the industry's average returns of 8.4%.

Check out our latest analysis for Dalian Insulator Group

SZSE:002606 Return on Capital Employed May 26th 2022

Historical performance is a great place to start when researching a stock so above you can see the gauge for Dalian Insulator Group's ROCE against it's prior returns. If you're interested in investigating Dalian Insulator Group's past further, check out this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

In terms of Dalian Insulator Group's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 11%, but since then they've fallen to 8.3%. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

On a side note, Dalian Insulator Group has done well to pay down its current liabilities to 15% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

What We Can Learn From Dalian Insulator Group's ROCE

In summary, we're somewhat concerned by Dalian Insulator Group's diminishing returns on increasing amounts of capital. But investors must be expecting an improvement of sorts because over the last three yearsthe stock has delivered a respectable 51% return. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

If you'd like to know about the risks facing Dalian Insulator Group, we've discovered 1 warning sign that you should be aware of.

While Dalian Insulator Group isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.

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