Guangdong KinLong Hardware ProductsLtd (SZSE:002791) Could Be Struggling To Allocate Capital

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. In light of that, when we looked at Guangdong KinLong Hardware ProductsLtd (SZSE:002791) and its ROCE trend, we weren't exactly thrilled.

What Is 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. Analysts use this formula to calculate it for Guangdong KinLong Hardware ProductsLtd:

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

0.067 = CN¥380m ÷ (CN¥9.5b - CN¥3.8b) (Based on the trailing twelve months to June 2024).

Therefore, Guangdong KinLong Hardware ProductsLtd has an ROCE of 6.7%. On its own, that's a low figure but it's around the 7.7% average generated by the Building industry.

See our latest analysis for Guangdong KinLong Hardware ProductsLtd

In the above chart we have measured Guangdong KinLong Hardware ProductsLtd'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 Guangdong KinLong Hardware ProductsLtd .

What Does the ROCE Trend For Guangdong KinLong Hardware ProductsLtd Tell Us?

On the surface, the trend of ROCE at Guangdong KinLong Hardware ProductsLtd doesn't inspire confidence. To be more specific, ROCE has fallen from 10% over the last five years. However it looks like Guangdong KinLong Hardware ProductsLtd 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.

On a separate but related note, it's important to know that Guangdong KinLong Hardware ProductsLtd has a current liabilities to total assets ratio of 40%, 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 Bottom Line

Bringing it all together, while we're somewhat encouraged by Guangdong KinLong Hardware ProductsLtd's reinvestment in its own business, we're aware that returns are shrinking. And with the stock having returned a mere 7.2% in the last five years to shareholders, you could argue that they're aware of these lackluster trends. So if you're looking for a multi-bagger, the underlying trends indicate you may have better chances elsewhere.

Like most companies, Guangdong KinLong Hardware ProductsLtd does come with some risks, and we've found 1 warning sign that you should be aware of.

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.