What are the early trends we should look for to identify a stock that could multiply in value over the long term? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. With that in mind, we've noticed some promising trends at Shandong Xinchao Energy (SHSE:600777) so let's look a bit deeper.
Understanding Return On Capital Employed (ROCE)
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Shandong Xinchao Energy, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.14 = CN¥4.4b ÷ (CN¥34b - CN¥2.8b) (Based on the trailing twelve months to June 2023).
So, Shandong Xinchao Energy has an ROCE of 14%. In absolute terms, that's a satisfactory return, but compared to the Oil and Gas industry average of 12% it's much better.
Historical performance is a great place to start when researching a stock so above you can see the gauge for Shandong Xinchao Energy's ROCE against it's prior returns. If you'd like to look at how Shandong Xinchao Energy has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
What Does the ROCE Trend For Shandong Xinchao Energy Tell Us?
The trends we've noticed at Shandong Xinchao Energy are quite reassuring. The data shows that returns on capital have increased substantially over the last five years to 14%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 53%. So we're very much inspired by what we're seeing at Shandong Xinchao Energy thanks to its ability to profitably reinvest capital.
What We Can Learn From Shandong Xinchao Energy's ROCE
In summary, it's great to see that Shandong Xinchao Energy can compound returns by consistently reinvesting capital at increasing rates of return, because these are some of the key ingredients of those highly sought after multi-baggers. Investors may not be impressed by the favorable underlying trends yet because over the last five years the stock has only returned 21% to shareholders. So exploring more about this stock could uncover a good opportunity, if the valuation and other metrics stack up.
On the other side of ROCE, we have to consider valuation. That's why we have a FREE intrinsic value estimation on our platform that is definitely worth checking out.
While Shandong Xinchao Energy 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.