Hunan Yuneng New Energy Battery MaterialLtd (SZSE:301358) Could Be Struggling To Allocate Capital

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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. In light of that, when we looked at Hunan Yuneng New Energy Battery MaterialLtd (SZSE:301358) 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. The formula for this calculation on Hunan Yuneng New Energy Battery MaterialLtd is:

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

0.032 = CN¥476m ÷ (CN¥28b - CN¥12b) (Based on the trailing twelve months to September 2024).

Therefore, Hunan Yuneng New Energy Battery MaterialLtd has an ROCE of 3.2%. Ultimately, that's a low return and it under-performs the Electrical industry average of 5.8%.

Check out our latest analysis for Hunan Yuneng New Energy Battery MaterialLtd

In the above chart we have measured Hunan Yuneng New Energy Battery MaterialLtd's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Hunan Yuneng New Energy Battery MaterialLtd .

What Does the ROCE Trend For Hunan Yuneng New Energy Battery MaterialLtd Tell Us?

When we looked at the ROCE trend at Hunan Yuneng New Energy Battery MaterialLtd, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 3.2% from 11% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 45%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 3.2%. What this means is that in reality, a rather large portion of the business is being funded by the likes of the company's suppliers or short-term creditors, which can bring some risks of its own.

The Key Takeaway

From the above analysis, we find it rather worrisome that returns on capital and sales for Hunan Yuneng New Energy Battery MaterialLtd have fallen, meanwhile the business is employing more capital than it was five years ago. However the stock has delivered a 47% return to shareholders over the last year, so investors might be expecting the trends to turn around. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

Hunan Yuneng New Energy Battery MaterialLtd does come with some risks though, we found 5 warning signs in our investment analysis, and 1 of those shouldn't be ignored...

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.