What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. So when we looked at Henan Zhongfu IndustrialLtd (SHSE:600595) and its trend of ROCE, we really liked what we saw.

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 Henan Zhongfu IndustrialLtd is:

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

0.062 = CN¥1.2b ÷ (CN¥24b - CN¥4.1b) (Based on the trailing twelve months to September 2023).

Therefore, Henan Zhongfu IndustrialLtd has an ROCE of 6.2%. Even though it's in line with the industry average of 6.5%, it's still a low return by itself.

In the above chart we have measured Henan Zhongfu IndustrialLtd's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Henan Zhongfu IndustrialLtd .

What The Trend Of ROCE Can Tell Us

We're delighted to see that Henan Zhongfu IndustrialLtd is reaping rewards from its investments and is now generating some pre-tax profits. About five years ago the company was generating losses but things have turned around because it's now earning 6.2% on its capital. Not only that, but the company is utilizing 43% more capital than before, but that's to be expected from a company trying to break into profitability. We like this trend, because it tells us the company has profitable reinvestment opportunities available to it, and if it continues going forward that can lead to a multi-bagger performance.

One more thing to note, Henan Zhongfu IndustrialLtd has decreased current liabilities to 17% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. Therefore we can rest assured that the growth in ROCE is a result of the business' fundamental improvements, rather than a cooking class featuring this company's books.

The Bottom Line On Henan Zhongfu IndustrialLtd's ROCE

Long story short, we're delighted to see that Henan Zhongfu IndustrialLtd's reinvestment activities have paid off and the company is now profitable. Since the stock has only returned 18% to shareholders over the last five years, the promising fundamentals may not be recognized yet by investors. Given that, we'd look further into this stock in case it has more traits that could make it multiply in the long term.

On a separate note, we've found 1 warning sign for Henan Zhongfu IndustrialLtd you'll probably want to know about.

While Henan Zhongfu IndustrialLtd 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.