What are the early trends we should look for to identify a stock that could multiply in value over the long term? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after briefly looking over the numbers, we don't think Jiangxi Hungpai New Material (SHSE:605366) 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)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Jiangxi Hungpai New Material is:

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

0.19 = CN¥420m ÷ (CN¥2.9b - CN¥654m) (Based on the trailing twelve months to September 2022).

So, Jiangxi Hungpai New Material has an ROCE of 19%. In absolute terms, that's a satisfactory return, but compared to the Chemicals industry average of 8.9% it's much better.

View our latest analysis for Jiangxi Hungpai New Material

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Jiangxi Hungpai New Material's past further, check out this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Jiangxi Hungpai New Material Tell Us?

When we looked at the ROCE trend at Jiangxi Hungpai New Material, we didn't gain much confidence. Around five years ago the returns on capital were 24%, but since then they've fallen to 19%. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Jiangxi Hungpai New Material has done well to pay down its current liabilities to 22% 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.

The Bottom Line On Jiangxi Hungpai New Material's ROCE

While returns have fallen for Jiangxi Hungpai New Material in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And the stock has followed suit returning a meaningful 49% to shareholders over the last year. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

One final note, you should learn about the 2 warning signs we've spotted with Jiangxi Hungpai New Material (including 1 which is concerning) .

While Jiangxi Hungpai New Material 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.

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.