Zhejiang Three Stars New Materials (SHSE:603578) Is Reinvesting At Lower Rates Of Return

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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 Zhejiang Three Stars New Materials (SHSE:603578) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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

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. The formula for this calculation on Zhejiang Three Stars New Materials is:

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

0.012 = CN¥35m ÷ (CN¥4.1b - CN¥1.1b) (Based on the trailing twelve months to September 2024).

So, Zhejiang Three Stars New Materials has an ROCE of 1.2%. In absolute terms, that's a low return and it also under-performs the Building industry average of 7.3%.

View our latest analysis for Zhejiang Three Stars New Materials

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 Zhejiang Three Stars New Materials' past further, check out this free graph covering Zhejiang Three Stars New Materials' past earnings, revenue and cash flow.

What Does the ROCE Trend For Zhejiang Three Stars New Materials Tell Us?

In terms of Zhejiang Three Stars New Materials' historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 1.2% from 8.5% five years ago. However it looks like Zhejiang Three Stars New Materials might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 27%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 1.2%. Keep an eye on this ratio, because the business could encounter some new risks if this metric gets too high.

The Bottom Line

To conclude, we've found that Zhejiang Three Stars New Materials is reinvesting in the business, but returns have been falling. And with the stock having returned a mere 11% in the last five years to shareholders, you could argue that they're aware of these lackluster trends. Therefore, if you're looking for a multi-bagger, we'd propose looking at other options.

On a final note, we found 3 warning signs for Zhejiang Three Stars New Materials (2 are significant) you should be aware of.

While Zhejiang Three Stars New Materials 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.