Weihai Huadong Automation (SZSE:002248) Is Looking To Continue Growing Its Returns On Capital

To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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.

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

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. The formula for this calculation on Weihai Huadong Automation is:

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

0.05 = CN¥7.3m ÷ (CN¥543m - CN¥398m) (Based on the trailing twelve months to September 2023).

Thus, Weihai Huadong Automation has an ROCE of 5.0%. In absolute terms, that's a low return but it's around the Machinery industry average of 6.0%.

Check out 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're interested in investigating Weihai Huadong Automation's past further, check out this free graph covering Weihai Huadong Automation's past earnings, revenue and cash flow.

The Trend Of ROCE

We're delighted to see that Weihai Huadong Automation is reaping rewards from its investments and has now broken into profitability. While the business is profitable now, it used to be incurring losses on invested capital five years ago. Additionally, the business is utilizing 71% less capital than it was five years ago, and taken at face value, that can mean the company needs less funds at work to get a return. Weihai Huadong Automation could be selling under-performing assets since the ROCE is improving.

On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. 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.

Our Take On Weihai Huadong Automation's ROCE

In a nutshell, we're pleased to see that Weihai Huadong Automation has been able to generate higher returns from less capital. Astute investors may have an opportunity here because the stock has declined 22% in the last five years. That being the case, research into the company's current valuation metrics and future prospects seems fitting.

One more thing: We've identified 4 warning signs with Weihai Huadong Automation (at least 1 which is a bit concerning) , and understanding them would certainly be useful.

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.