If you're looking for a multi-bagger, there's a few things to keep an eye out for. 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. In light of that, when we looked at Zhuzhou Hongda ElectronicsLtd (SZSE:300726) and its ROCE trend, we weren't exactly thrilled.
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 Zhuzhou Hongda ElectronicsLtd, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.13 = CN¥677m ÷ (CN¥5.7b - CN¥503m) (Based on the trailing twelve months to September 2023).
Thus, Zhuzhou Hongda ElectronicsLtd has an ROCE of 13%. In absolute terms, that's a satisfactory return, but compared to the Electronic industry average of 5.2% it's much better.
Above you can see how the current ROCE for Zhuzhou Hongda ElectronicsLtd compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Zhuzhou Hongda ElectronicsLtd .
What Can We Tell From Zhuzhou Hongda ElectronicsLtd's ROCE Trend?
On the surface, the trend of ROCE at Zhuzhou Hongda ElectronicsLtd doesn't inspire confidence. Over the last five years, returns on capital have decreased to 13% from 17% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. 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.
Our Take On Zhuzhou Hongda ElectronicsLtd's ROCE
We're a bit apprehensive about Zhuzhou Hongda ElectronicsLtd because despite more capital being deployed in the business, returns on that capital and sales have both fallen. In spite of that, the stock has delivered a 26% return to shareholders who held over the last five years. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.
Like most companies, Zhuzhou Hongda ElectronicsLtd does come with some risks, and we've found 1 warning sign that you should be aware of.
If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.
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.