What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Speaking of which, we noticed some great changes in Anhui Guangxin Agrochemical's (SHSE:603599) returns on capital, so let's have a look.
Return On Capital Employed (ROCE): What Is It?
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Anhui Guangxin Agrochemical is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.19 = CN¥1.8b ÷ (CN¥15b - CN¥5.2b) (Based on the trailing twelve months to September 2023).
Therefore, Anhui Guangxin Agrochemical has an ROCE of 19%. On its own, that's a standard return, however it's much better than the 6.0% generated by the Chemicals industry.
Above you can see how the current ROCE for Anhui Guangxin Agrochemical compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Anhui Guangxin Agrochemical for free.
What The Trend Of ROCE Can Tell Us
The trends we've noticed at Anhui Guangxin Agrochemical are quite reassuring. The data shows that returns on capital have increased substantially over the last five years to 19%. Basically the business is earning more per dollar of capital invested and in addition to that, 110% more capital is being employed now too. So we're very much inspired by what we're seeing at Anhui Guangxin Agrochemical thanks to its ability to profitably reinvest capital.
On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. The current liabilities has increased to 35% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. It's worth keeping an eye on this because as the percentage of current liabilities to total assets increases, some aspects of risk also increase.
The Bottom Line
In summary, it's great to see that Anhui Guangxin Agrochemical 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. And a remarkable 112% total return over the last five years tells us that investors are expecting more good things to come in the future. Therefore, we think it would be worth your time to check if these trends are going to continue.
If you'd like to know about the risks facing Anhui Guangxin Agrochemical, we've discovered 1 warning sign that you should be aware of.
While Anhui Guangxin Agrochemical isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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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.