The Returns On Capital At Long Yuan Construction Group (SHSE:600491) Don't Inspire Confidence

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Although, when we looked at Long Yuan Construction Group (SHSE:600491), it didn't seem to tick all of these boxes.

What Is Return On Capital Employed (ROCE)?

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 Long Yuan Construction Group is:

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

0.011 = CN¥360m ÷ (CN¥61b - CN¥29b) (Based on the trailing twelve months to September 2023).

So, Long Yuan Construction Group has an ROCE of 1.1%. Ultimately, that's a low return and it under-performs the Construction industry average of 6.9%.

Check out 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're interested in investigating Long Yuan Construction Group's past further, check out this free graph covering Long Yuan Construction Group's past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

We weren't thrilled with the trend because Long Yuan Construction Group's ROCE has reduced by 83% over the last five years, while the business employed 71% more capital. 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. It's unlikely that all of the funds raised have been put to work yet, so as a consequence Long Yuan Construction Group might not have received a full period of earnings contribution from it.

On a side note, Long Yuan Construction Group has done well to pay down its current liabilities to 48% 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. Keep in mind 48% is still pretty high, so those risks are still somewhat prevalent.

Our Take On Long Yuan Construction Group's ROCE

In summary, we're somewhat concerned by Long Yuan Construction Group's diminishing returns on increasing amounts of capital. Long term shareholders who've owned the stock over the last five years have experienced a 59% depreciation in their investment, so it appears the market might not like these trends either. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

On a separate note, we've found 2 warning signs for Long Yuan Construction Group you'll probably want to know about.

While Long Yuan Construction Group may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.