Returns On Capital Signal Tricky Times Ahead For Xuchang Yuandong Drive ShaftLtd (SZSE:002406)

There are a few key trends to look for if we want to identify the next multi-bagger. 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after investigating Xuchang Yuandong Drive ShaftLtd (SZSE:002406), we don't think it's current trends fit the mold of a multi-bagger.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Xuchang Yuandong Drive ShaftLtd, this is the formula:

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

0.018 = CN¥77m ÷ (CN¥4.8b - CN¥659m) (Based on the trailing twelve months to June 2024).

Thus, Xuchang Yuandong Drive ShaftLtd has an ROCE of 1.8%. Ultimately, that's a low return and it under-performs the Auto Components industry average of 7.2%.

View our latest analysis for Xuchang Yuandong Drive ShaftLtd

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 want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of Xuchang Yuandong Drive ShaftLtd.

So How Is Xuchang Yuandong Drive ShaftLtd's ROCE Trending?

When we looked at the ROCE trend at Xuchang Yuandong Drive ShaftLtd, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 1.8% from 11% five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

The Key Takeaway

While returns have fallen for Xuchang Yuandong Drive ShaftLtd in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. In light of this, the stock has only gained 15% over the last five years. So this stock may still be an appealing investment opportunity, if other fundamentals prove to be sound.

Xuchang Yuandong Drive ShaftLtd does come with some risks though, we found 4 warning signs in our investment analysis, and 1 of those shouldn't be ignored...

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.