If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Having said that, from a first glance at ABA Chemicals (SZSE:300261) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.
Understanding Return On Capital Employed (ROCE)
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for ABA Chemicals:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.043 = CN¥127m ÷ (CN¥4.2b - CN¥1.3b) (Based on the trailing twelve months to September 2023).
Therefore, ABA Chemicals has an ROCE of 4.3%. Ultimately, that's a low return and it under-performs the Chemicals industry average of 5.5%.
Check out our latest analysis for ABA Chemicals
Historical performance is a great place to start when researching a stock so above you can see the gauge for ABA Chemicals' ROCE against it's prior returns. If you'd like to look at how ABA Chemicals has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
The Trend Of ROCE
In terms of ABA Chemicals' historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 4.3% from 7.7% five years ago. 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.
The Bottom Line On ABA Chemicals' ROCE
In summary, we're somewhat concerned by ABA Chemicals' diminishing returns on increasing amounts of capital. Yet despite these concerning fundamentals, the stock has performed strongly with a 52% return over the last five years, so investors appear very optimistic. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.
One more thing, we've spotted 2 warning signs facing ABA Chemicals that you might find interesting.
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.
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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.