Essence Fastening Systems (Shanghai) (SZSE:301005) May Have Issues Allocating Its Capital

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Having said that, from a first glance at Essence Fastening Systems (Shanghai) (SZSE:301005) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

What Is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Essence Fastening Systems (Shanghai), this is the formula:

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

0.0058 = CN¥5.0m ÷ (CN¥1.1b - CN¥284m) (Based on the trailing twelve months to March 2024).

Thus, Essence Fastening Systems (Shanghai) has an ROCE of 0.6%. In absolute terms, that's a low return and it also under-performs the Auto Components industry average of 6.9%.

See our latest analysis for Essence Fastening Systems (Shanghai)

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 Essence Fastening Systems (Shanghai)'s past further, check out this free graph covering Essence Fastening Systems (Shanghai)'s past earnings, revenue and cash flow.

The Trend Of ROCE

On the surface, the trend of ROCE at Essence Fastening Systems (Shanghai) doesn't inspire confidence. To be more specific, ROCE has fallen from 27% over the last five years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. 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 Essence Fastening Systems (Shanghai) in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. Furthermore the stock has climbed 35% over the last three years, it would appear that investors are upbeat about the future. So should these growth trends continue, we'd be optimistic on the stock going forward.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 4 warning signs for Essence Fastening Systems (Shanghai) (of which 2 don't sit too well with us!) that you should know about.

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.

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