If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. However, after investigating Baowu Magnesium Technology (SZSE:002182), we don't think it's current trends fit the mold of a multi-bagger.
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 Baowu Magnesium Technology:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.044 = CN¥313m ÷ (CN¥11b - CN¥3.6b) (Based on the trailing twelve months to September 2023).
So, Baowu Magnesium Technology has an ROCE of 4.4%. Ultimately, that's a low return and it under-performs the Metals and Mining industry average of 6.2%.
View our latest analysis for Baowu Magnesium Technology
In the above chart we have measured Baowu Magnesium Technology's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Baowu Magnesium Technology here for free.
What The Trend Of ROCE Can Tell Us
The trend of ROCE doesn't look fantastic because it's fallen from 24% five years ago, while the business's capital employed increased by 280%. That being said, Baowu Magnesium Technology raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. It's unlikely that all of the funds raised have been put to work yet, so as a consequence Baowu Magnesium Technology might not have received a full period of earnings contribution from it.
On a side note, Baowu Magnesium Technology has done well to pay down its current liabilities to 33% 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. 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
We're a bit apprehensive about Baowu Magnesium Technology because despite more capital being deployed in the business, returns on that capital and sales have both fallen. The market must be rosy on the stock's future because even though the underlying trends aren't too encouraging, the stock has soared 184%. 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 more about Baowu Magnesium Technology, we've spotted 5 warning signs, and 1 of them is potentially serious.
While Baowu Magnesium Technology 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.