Aeolus Tyre (SHSE:600469) Might Be Having Difficulty Using Its Capital Effectively

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. Having said that, from a first glance at Aeolus Tyre (SHSE:600469) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Return On Capital Employed (ROCE): What Is It?

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 Aeolus Tyre is:

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

0.095 = CN¥441m ÷ (CN¥7.3b - CN¥2.6b) (Based on the trailing twelve months to June 2024).

Therefore, Aeolus Tyre has an ROCE of 9.5%. In absolute terms, that's a low return, but it's much better than the Auto Components industry average of 7.3%.

View our latest analysis for Aeolus Tyre

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Aeolus Tyre's past further, check out this free graph covering Aeolus Tyre's past earnings, revenue and cash flow.

What Can We Tell From Aeolus Tyre's ROCE Trend?

We weren't thrilled with the trend because Aeolus Tyre's ROCE has reduced by 42% over the last five years, while the business employed 95% more capital. Usually this isn't ideal, but given Aeolus Tyre conducted a capital raising before their most recent earnings announcement, that would've likely contributed, at least partially, to the increased capital employed figure. Aeolus Tyre probably hasn't received a full year of earnings yet from the new funds it raised, so these figures should be taken with a grain of salt.

On a side note, Aeolus Tyre has done well to pay down its current liabilities to 36% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Bottom Line On Aeolus Tyre's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Aeolus Tyre is reinvesting for growth and has higher sales as a result. And the stock has followed suit returning a meaningful 46% to shareholders over the last five years. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

One more thing, we've spotted 1 warning sign facing Aeolus Tyre that you might find interesting.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and 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.