Returns On Capital Are Showing Encouraging Signs At Weihai Huadong Automation (SZSE:002248)

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Speaking of which, we noticed some great changes in Weihai Huadong Automation's (SZSE:002248) returns on capital, so let's have a look.

What Is Return On Capital Employed (ROCE)?

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. To calculate this metric for Weihai Huadong Automation, this is the formula:

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

0.054 = CN¥7.9m ÷ (CN¥543m - CN¥398m) (Based on the trailing twelve months to September 2023).

Thus, Weihai Huadong Automation has an ROCE of 5.4%. Even though it's in line with the industry average of 5.2%, it's still a low return by itself.

View our latest analysis for Weihai Huadong Automation

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 want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of Weihai Huadong Automation.

What Does the ROCE Trend For Weihai Huadong Automation Tell Us?

It's great to see that Weihai Huadong Automation has started to generate some pre-tax earnings from prior investments. The company was generating losses five years ago, but now it's turned around, earning 5.4% which is no doubt a relief for some early shareholders. At first glance, it seems the business is getting more proficient at generating returns, because over the same period, the amount of capital employed has reduced by 71%. Weihai Huadong Automation could be selling under-performing assets since the ROCE is improving.

For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. Effectively this means that suppliers or short-term creditors are now funding 73% of the business, which is more than it was five years ago. And with current liabilities at those levels, that's pretty high.

The Bottom Line On Weihai Huadong Automation's ROCE

In the end, Weihai Huadong Automation has proven it's capital allocation skills are good with those higher returns from less amount of capital. Since the stock has only returned 5.7% to shareholders over the last five years, the promising fundamentals may not be recognized yet by investors. So exploring more about this stock could uncover a good opportunity, if the valuation and other metrics stack up.

One final note, you should learn about the 3 warning signs we've spotted with Weihai Huadong Automation (including 1 which is a bit concerning) .

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.