EST Tools (SZSE:300488) Might Be Having Difficulty Using Its Capital Effectively

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. However, after investigating EST Tools (SZSE:300488), we don't think it's current trends fit the mold of a multi-bagger.

Understanding 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. To calculate this metric for EST Tools, this is the formula:

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

0.073 = CN¥152m ÷ (CN¥2.3b - CN¥172m) (Based on the trailing twelve months to September 2024).

Therefore, EST Tools has an ROCE of 7.3%. In absolute terms, that's a low return, but it's much better than the Machinery industry average of 5.2%.

View our latest analysis for EST Tools

Historical performance is a great place to start when researching a stock so above you can see the gauge for EST Tools' ROCE against it's prior returns. If you're interested in investigating EST Tools' past further, check out this free graph covering EST Tools' past earnings, revenue and cash flow.

The Trend Of ROCE

When we looked at the ROCE trend at EST Tools, we didn't gain much confidence. To be more specific, ROCE has fallen from 9.6% over the last five years. 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.

The Key Takeaway

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for EST Tools. And long term investors must be optimistic going forward because the stock has returned a huge 123% to shareholders in the last five years. So should these growth trends continue, we'd be optimistic on the stock going forward.

One more thing, we've spotted 1 warning sign facing EST Tools that you might find interesting.

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.