There Are Reasons To Feel Uneasy About Zhongzhong Science & Technology (Tianjin)'s (SHSE:603135) Returns On Capital

Did you know there are some financial metrics that can provide clues of a potential 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. In light of that, when we looked at Zhongzhong Science & Technology (Tianjin) (SHSE:603135) and its ROCE trend, we weren't exactly thrilled.

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

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. Analysts use this formula to calculate it for Zhongzhong Science & Technology (Tianjin):

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

0.044 = CN¥135m ÷ (CN¥3.8b - CN¥778m) (Based on the trailing twelve months to September 2023).

Thus, Zhongzhong Science & Technology (Tianjin) has an ROCE of 4.4%. Ultimately, that's a low return and it under-performs the Machinery industry average of 6.1%.

See our latest analysis for Zhongzhong Science & Technology (Tianjin)

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 Zhongzhong Science & Technology (Tianjin)'s past further, check out this free graph covering Zhongzhong Science & Technology (Tianjin)'s past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

On the surface, the trend of ROCE at Zhongzhong Science & Technology (Tianjin) doesn't inspire confidence. To be more specific, ROCE has fallen from 14% over the last four years. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a side note, Zhongzhong Science & Technology (Tianjin) has done well to pay down its current liabilities to 20% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Key Takeaway

In summary, we're somewhat concerned by Zhongzhong Science & Technology (Tianjin)'s diminishing returns on increasing amounts of capital. Investors haven't taken kindly to these developments, since the stock has declined 34% from where it was year ago. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

One more thing to note, we've identified 1 warning sign with Zhongzhong Science & Technology (Tianjin) and understanding it should be part of your investment process.

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.

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

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.