Capital Allocation Trends At SINOMACH HEAVY EQUIPMENT GROUPLTD (SHSE:601399) Aren't Ideal

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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. Although, when we looked at SINOMACH HEAVY EQUIPMENT GROUPLTD (SHSE:601399), it didn't seem to tick all of these boxes.

Return On Capital Employed (ROCE): What Is It?

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 SINOMACH HEAVY EQUIPMENT GROUPLTD, this is the formula:

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

0.0029 = CN¥51m ÷ (CN¥29b - CN¥11b) (Based on the trailing twelve months to September 2023).

Thus, SINOMACH HEAVY EQUIPMENT GROUPLTD has an ROCE of 0.3%. In absolute terms, that's a low return and it also under-performs the Machinery industry average of 6.0%.

View our latest analysis for SINOMACH HEAVY EQUIPMENT GROUPLTD

Historical performance is a great place to start when researching a stock so above you can see the gauge for SINOMACH HEAVY EQUIPMENT GROUPLTD's ROCE against it's prior returns. If you're interested in investigating SINOMACH HEAVY EQUIPMENT GROUPLTD's past further, check out this free graph covering SINOMACH HEAVY EQUIPMENT GROUPLTD's past earnings, revenue and cash flow.

The Trend Of ROCE

On the surface, the trend of ROCE at SINOMACH HEAVY EQUIPMENT GROUPLTD doesn't inspire confidence. Around five years ago the returns on capital were 18%, but since then they've fallen to 0.3%. 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. If these investments prove successful, this can bode very well for long term stock performance.

On a related note, SINOMACH HEAVY EQUIPMENT GROUPLTD has decreased its current liabilities to 39% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. 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.

The Bottom Line

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for SINOMACH HEAVY EQUIPMENT GROUPLTD. And there could be an opportunity here if other metrics look good too, because the stock has declined 27% in the last three years. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

One more thing to note, we've identified 1 warning sign with SINOMACH HEAVY EQUIPMENT GROUPLTD and understanding this should be part of your investment process.

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.