If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at Shanghai QiFan Cable (SHSE:605222), it didn't seem to tick all of these boxes.
Return On Capital Employed (ROCE): What Is It?
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 Shanghai QiFan Cable:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.13 = CN¥706m ÷ (CN¥13b - CN¥7.0b) (Based on the trailing twelve months to March 2023).
So, Shanghai QiFan Cable has an ROCE of 13%. On its own, that's a standard return, however it's much better than the 6.6% generated by the Electrical industry.
Check out our latest analysis for Shanghai QiFan Cable
Historical performance is a great place to start when researching a stock so above you can see the gauge for Shanghai QiFan Cable's ROCE against it's prior returns. If you're interested in investigating Shanghai QiFan Cable's past further, check out this free graph of past earnings, revenue and cash flow.
So How Is Shanghai QiFan Cable's ROCE Trending?
When we looked at the ROCE trend at Shanghai QiFan Cable, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 13% from 36% five years ago. 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 may take some time before the company starts to see any change in earnings from these investments.
Another thing to note, Shanghai QiFan Cable has a high ratio of current liabilities to total assets of 55%. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
What We Can Learn From Shanghai QiFan Cable's ROCE
In summary, Shanghai QiFan Cable is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Since the stock has declined 20% over the last year, investors may not be too optimistic on this trend improving either. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.
If you want to know some of the risks facing Shanghai QiFan Cable we've found 3 warning signs (1 shouldn't be ignored!) that you should be aware of before investing here.
While Shanghai QiFan Cable 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.