Dongguan Dingtong Precision Metal's (SHSE:688668) Returns On Capital Not Reflecting Well On The Business

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. However, after investigating Dongguan Dingtong Precision Metal (SHSE:688668), we don't think it's current trends fit the mold of a multi-bagger.

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. Analysts use this formula to calculate it for Dongguan Dingtong Precision Metal:

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

0.0091 = CN¥16m ÷ (CN¥2.0b - CN¥154m) (Based on the trailing twelve months to March 2024).

Therefore, Dongguan Dingtong Precision Metal has an ROCE of 0.9%. Ultimately, that's a low return and it under-performs the Electrical industry average of 6.0%.

View our latest analysis for Dongguan Dingtong Precision Metal

In the above chart we have measured Dongguan Dingtong Precision Metal's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Dongguan Dingtong Precision Metal .

What The Trend Of ROCE Can Tell Us

On the surface, the trend of ROCE at Dongguan Dingtong Precision Metal doesn't inspire confidence. Over the last five years, returns on capital have decreased to 0.9% from 22% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. 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, Dongguan Dingtong Precision Metal has done well to pay down its current liabilities to 7.9% 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 Key Takeaway

In summary, we're somewhat concerned by Dongguan Dingtong Precision Metal's diminishing returns on increasing amounts of capital. Yet despite these concerning fundamentals, the stock has performed strongly with a 86% return over the last three years, so investors appear very optimistic. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 4 warning signs for Dongguan Dingtong Precision Metal (of which 2 can't be ignored!) that you should know about.

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.