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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Having said that, from a first glance at Zhejiang Huilong New MaterialsLtd (SZSE:301057) 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)?
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. The formula for this calculation on Zhejiang Huilong New MaterialsLtd is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.056 = CN¥43m ÷ (CN¥890m - CN¥123m) (Based on the trailing twelve months to September 2023).
Therefore, Zhejiang Huilong New MaterialsLtd has an ROCE of 5.6%. In absolute terms, that's a low return but it's around the Luxury industry average of 5.1%.
Historical performance is a great place to start when researching a stock so above you can see the gauge for Zhejiang Huilong New MaterialsLtd's ROCE against it's prior returns. If you're interested in investigating Zhejiang Huilong New MaterialsLtd's past further, check out this free graph of past earnings, revenue and cash flow.
The Trend Of ROCE
When we looked at the ROCE trend at Zhejiang Huilong New MaterialsLtd, we didn't gain much confidence. Around five years ago the returns on capital were 28%, but since then they've fallen to 5.6%. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. If these investments prove successful, this can bode very well for long term stock performance.
On a side note, Zhejiang Huilong New MaterialsLtd has done well to pay down its current liabilities to 14% of total assets. So we could link some of this to the decrease in ROCE. 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
In summary, despite lower returns in the short term, we're encouraged to see that Zhejiang Huilong New MaterialsLtd is reinvesting for growth and has higher sales as a result. And there could be an opportunity here if other metrics look good too, because the stock has declined 43% in the last year. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.
One final note, you should learn about the 4 warning signs we've spotted with Zhejiang Huilong New MaterialsLtd (including 2 which are significant) .
While Zhejiang Huilong New MaterialsLtd isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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.