There's Been No Shortage Of Growth Recently For XCMG Construction Machinery's (SZSE:000425) Returns On Capital

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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. With that in mind, we've noticed some promising trends at XCMG Construction Machinery (SZSE:000425) so let's look a bit deeper.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on XCMG Construction Machinery is:

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

0.07 = CN¥5.6b ÷ (CN¥165b - CN¥85b) (Based on the trailing twelve months to March 2024).

Thus, XCMG Construction Machinery has an ROCE of 7.0%. On its own, that's a low figure but it's around the 5.9% average generated by the Machinery industry.

Check out our latest analysis for XCMG Construction Machinery

In the above chart we have measured XCMG Construction Machinery's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering XCMG Construction Machinery for free.

What Can We Tell From XCMG Construction Machinery's ROCE Trend?

We're glad to see that ROCE is heading in the right direction, even if it is still low at the moment. The data shows that returns on capital have increased substantially over the last five years to 7.0%. The amount of capital employed has increased too, by 126%. So we're very much inspired by what we're seeing at XCMG Construction Machinery thanks to its ability to profitably reinvest capital.

On a separate but related note, it's important to know that XCMG Construction Machinery has a current liabilities to total assets ratio of 51%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Key Takeaway

To sum it up, XCMG Construction Machinery has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And with a respectable 97% awarded to those who held the stock over the last five years, you could argue that these developments are starting to get the attention they deserve. Therefore, we think it would be worth your time to check if these trends are going to continue.

If you want to continue researching XCMG Construction Machinery, you might be interested to know about the 1 warning sign that our analysis has discovered.

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.

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.