Returns On Capital At Long Yuan Construction Group (SHSE:600491) Paint A Concerning Picture

There are a few key trends to look for if we want to identify the next multi-bagger. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's 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. In light of that, when we looked at Long Yuan Construction Group (SHSE:600491) and its ROCE trend, we weren't exactly thrilled.

What Is 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. The formula for this calculation on Long Yuan Construction Group is:

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

0.025 = CN¥746m ÷ (CN¥57b - CN¥28b) (Based on the trailing twelve months to March 2024).

Therefore, Long Yuan Construction Group has an ROCE of 2.5%. Ultimately, that's a low return and it under-performs the Construction industry average of 6.5%.

View our latest analysis for Long Yuan Construction Group

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'd like to look at how Long Yuan Construction Group has performed in the past in other metrics, you can view this free graph of Long Yuan Construction Group's past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

Unfortunately, the trend isn't great with ROCE falling from 6.4% five years ago, while capital employed has grown 39%. That being said, Long Yuan Construction Group raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. Long Yuan Construction Group 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, Long Yuan Construction Group has done well to pay down its current liabilities to 49% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. 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. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

The Bottom Line

In summary, we're somewhat concerned by Long Yuan Construction Group's diminishing returns on increasing amounts of capital. It should come as no surprise then that the stock has fallen 60% over the last five years, so it looks like investors are recognizing these changes. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

Long Yuan Construction Group does have some risks though, and we've spotted 2 warning signs for Long Yuan Construction Group that you might be interested in.

While Long Yuan Construction Group 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com