If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. That's why when we briefly looked at DeHua TB New Decoration MaterialLtd's (SZSE:002043) ROCE trend, we were very happy with what we saw.
Understanding Return On Capital Employed (ROCE)
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. To calculate this metric for DeHua TB New Decoration MaterialLtd, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.22 = CN¥696m ÷ (CN¥5.9b - CN¥2.7b) (Based on the trailing twelve months to September 2023).
Thus, DeHua TB New Decoration MaterialLtd has an ROCE of 22%. That's a fantastic return and not only that, it outpaces the average of 5.7% earned by companies in a similar industry.
Above you can see how the current ROCE for DeHua TB New Decoration MaterialLtd compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for DeHua TB New Decoration MaterialLtd .
How Are Returns Trending?
It's hard not to be impressed by DeHua TB New Decoration MaterialLtd's returns on capital. The company has employed 76% more capital in the last five years, and the returns on that capital have remained stable at 22%. With returns that high, it's great that the business can continually reinvest its money at such appealing rates of return. If these trends can continue, it wouldn't surprise us if the company became a multi-bagger.
On a side note, DeHua TB New Decoration MaterialLtd's current liabilities are still rather high at 46% of total assets. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.
Our Take On DeHua TB New Decoration MaterialLtd's ROCE
In summary, we're delighted to see that DeHua TB New Decoration MaterialLtd has been compounding returns by reinvesting at consistently high rates of return, as these are common traits of a multi-bagger. And since the stock has risen strongly over the last five years, it appears the market might expect this trend to continue. So while the positive underlying trends may be accounted for by investors, we still think this stock is worth looking into further.
On a final note, we've found 1 warning sign for DeHua TB New Decoration MaterialLtd that we think you should be aware of.
If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning high 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.