Shanghai Tunnel Engineering (SHSE:600820) Is Reinvesting At Lower Rates Of Return

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Shanghai Tunnel Engineering (SHSE:600820) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Understanding 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. To calculate this metric for Shanghai Tunnel Engineering, this is the formula:

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

0.036 = CN¥2.5b ÷ (CN¥161b - CN¥92b) (Based on the trailing twelve months to March 2024).

So, Shanghai Tunnel Engineering has an ROCE of 3.6%. In absolute terms, that's a low return and it also under-performs the Construction industry average of 6.5%.

Check out our latest analysis for Shanghai Tunnel Engineering

In the above chart we have measured Shanghai Tunnel Engineering's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Shanghai Tunnel Engineering .

What Does the ROCE Trend For Shanghai Tunnel Engineering Tell Us?

In terms of Shanghai Tunnel Engineering's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 3.6% from 5.2% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a separate but related note, it's important to know that Shanghai Tunnel Engineering has a current liabilities to total assets ratio of 57%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On Shanghai Tunnel Engineering's ROCE

In summary, Shanghai Tunnel Engineering is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Unsurprisingly, the stock has only gained 33% over the last five years, which potentially indicates that investors are accounting for this going forward. Therefore, if you're looking for a multi-bagger, we'd propose looking at other options.

If you want to know some of the risks facing Shanghai Tunnel Engineering we've found 2 warning signs (1 doesn't sit too well with us!) that you should be aware of before investing here.

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.