Investors Could Be Concerned With Hunan Oil Pump's (SHSE:603319) Returns On Capital

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after investigating Hunan Oil Pump (SHSE:603319), we don't think it's current trends fit the mold of a multi-bagger.

What Is Return On Capital Employed (ROCE)?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Hunan Oil Pump, this is the formula:

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

0.082 = CN¥235m ÷ (CN¥3.7b - CN¥883m) (Based on the trailing twelve months to September 2024).

So, Hunan Oil Pump has an ROCE of 8.2%. In absolute terms, that's a low return, but it's much better than the Machinery industry average of 5.2%.

See our latest analysis for Hunan Oil Pump

Historical performance is a great place to start when researching a stock so above you can see the gauge for Hunan Oil Pump's ROCE against it's prior returns. If you want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of Hunan Oil Pump.

How Are Returns Trending?

The trend of ROCE doesn't look fantastic because it's fallen from 12% five years ago, while the business's capital employed increased by 198%. However, some of the increase in capital employed could be attributed to the recent capital raising that's been completed prior to their latest reporting period, so keep that in mind when looking at the ROCE decrease. It's unlikely that all of the funds raised have been put to work yet, so as a consequence Hunan Oil Pump might not have received a full period of earnings contribution from it. Also, we found that by looking at the company's latest EBIT, the figure is within 10% of the previous year's EBIT so you can basically assign the ROCE drop primarily to that capital raise.

On a side note, Hunan Oil Pump has done well to pay down its current liabilities to 24% of total assets. That could partly explain why the ROCE has dropped. 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. 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 Bottom Line

While returns have fallen for Hunan Oil Pump in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And the stock has done incredibly well with a 212% return over the last five years, so long term investors are no doubt ecstatic with that result. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

One more thing to note, we've identified 1 warning sign with Hunan Oil Pump and understanding it should be part of your investment process.

While Hunan Oil Pump 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.