Rayhoo Motor DiesLtd (SZSE:002997) Is Reinvesting At Lower Rates Of Return

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Although, when we looked at Rayhoo Motor DiesLtd (SZSE:002997), it didn't seem to tick all of these boxes.

What Is Return On Capital Employed (ROCE)?

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 Rayhoo Motor DiesLtd:

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

0.092 = CN¥245m ÷ (CN¥5.7b - CN¥3.0b) (Based on the trailing twelve months to September 2024).

So, Rayhoo Motor DiesLtd has an ROCE of 9.2%. On its own that's a low return, but compared to the average of 5.3% generated by the Machinery industry, it's much better.

See our latest analysis for Rayhoo Motor DiesLtd

Above you can see how the current ROCE for Rayhoo Motor DiesLtd compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Rayhoo Motor DiesLtd for free.

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at Rayhoo Motor DiesLtd, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 9.2% from 19% five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

On a related note, Rayhoo Motor DiesLtd has decreased its current liabilities to 53% of total assets. That could partly explain why the ROCE has dropped. 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. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

In Conclusion...

While returns have fallen for Rayhoo Motor DiesLtd in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And the stock has done incredibly well with a 154% return over the last three years, so long term investors are no doubt ecstatic with that result. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 2 warning signs for Rayhoo Motor DiesLtd (of which 1 can't be ignored!) that you should know about.

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.

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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.