There are a few key trends to look for if we want to identify the next multi-bagger. 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. However, after investigating Shanghai Zhonggu Logistics (SHSE:603565), we don't think it's current trends fit the mold of a multi-bagger.

What Is Return On Capital Employed (ROCE)?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on Shanghai Zhonggu Logistics is:

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

0.11 = CN¥1.9b ÷ (CN¥24b - CN¥6.0b) (Based on the trailing twelve months to September 2023).

Therefore, Shanghai Zhonggu Logistics has an ROCE of 11%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Shipping industry average of 9.1%.

Above you can see how the current ROCE for Shanghai Zhonggu Logistics compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What Can We Tell From Shanghai Zhonggu Logistics' ROCE Trend?

On the surface, the trend of ROCE at Shanghai Zhonggu Logistics doesn't inspire confidence. Over the last five years, returns on capital have decreased to 11% from 15% 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.

On a side note, Shanghai Zhonggu Logistics has done well to pay down its current liabilities to 25% 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 On Shanghai Zhonggu Logistics' ROCE

In summary, we're somewhat concerned by Shanghai Zhonggu Logistics' diminishing returns on increasing amounts of capital. Long term shareholders who've owned the stock over the last three years have experienced a 14% depreciation in their investment, so it appears the market might not like these trends either. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

On a final note, we found 2 warning signs for Shanghai Zhonggu Logistics (1 doesn't sit too well with us) you should be aware of.

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.