If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Although, when we looked at Wuchan Zhongda GroupLtd (SHSE:600704), it didn't seem to tick all of these boxes.
Return On Capital Employed (ROCE): What Is It?
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 Wuchan Zhongda GroupLtd is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.098 = CN¥6.3b ÷ (CN¥193b - CN¥129b) (Based on the trailing twelve months to September 2023).
Thus, Wuchan Zhongda GroupLtd has an ROCE of 9.8%. On its own that's a low return, but compared to the average of 5.5% generated by the Retail Distributors industry, it's much better.
Historical performance is a great place to start when researching a stock so above you can see the gauge for Wuchan Zhongda GroupLtd's ROCE against it's prior returns. If you're interested in investigating Wuchan Zhongda GroupLtd's past further, check out this free graph covering Wuchan Zhongda GroupLtd's past earnings, revenue and cash flow.
What The Trend Of ROCE Can Tell Us
There are better returns on capital out there than what we're seeing at Wuchan Zhongda GroupLtd. Over the past five years, ROCE has remained relatively flat at around 9.8% and the business has deployed 83% more capital into its operations. Given the company has increased the amount of capital employed, it appears the investments that have been made simply don't provide a high return on capital.
On a side note, Wuchan Zhongda GroupLtd's current liabilities are still rather high at 67% of total assets. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.
What We Can Learn From Wuchan Zhongda GroupLtd's ROCE
In conclusion, Wuchan Zhongda GroupLtd has been investing more capital into the business, but returns on that capital haven't increased. Unsurprisingly then, the total return to shareholders over the last five years has been flat. On the whole, we aren't too inspired by the underlying trends and we think there may be better chances of finding a multi-bagger elsewhere.
One more thing to note, we've identified 1 warning sign with Wuchan Zhongda GroupLtd and understanding it should be part of your investment process.
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.
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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.