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Zhiyang Innovation Technology (SHSE:688191) Could Be Struggling To Allocate Capital

Simply Wall St ·  04/18/2023 07:08

There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Having said that, from a first glance at Zhiyang Innovation Technology (SHSE:688191) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper 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. The formula for this calculation on Zhiyang Innovation Technology is:

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

0.031 = CN¥26m ÷ (CN¥1.1b - CN¥274m) (Based on the trailing twelve months to December 2022).

Thus, Zhiyang Innovation Technology has an ROCE of 3.1%. Ultimately, that's a low return and it under-performs the Electrical industry average of 8.1%.

Check out our latest analysis for Zhiyang Innovation Technology

roce
SHSE:688191 Return on Capital Employed April 17th 2023

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 Zhiyang Innovation Technology's past further, check out this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Zhiyang Innovation Technology Tell Us?

In terms of Zhiyang Innovation Technology's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 20% over the last four years. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a related note, Zhiyang Innovation Technology has decreased its current liabilities to 25% 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.

The Bottom Line On Zhiyang Innovation Technology's ROCE

Bringing it all together, while we're somewhat encouraged by Zhiyang Innovation Technology's reinvestment in its own business, we're aware that returns are shrinking. Although the market must be expecting these trends to improve because the stock has gained 27% over the last year. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.

If you want to know some of the risks facing Zhiyang Innovation Technology we've found 3 warning signs (1 is significant!) that you should be aware of before investing here.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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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