There Are Reasons To Feel Uneasy About Dongnan ElectronicsLtd's (SZSE:301359) Returns On Capital

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. However, after briefly looking over the numbers, we don't think Dongnan ElectronicsLtd (SZSE:301359) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Understanding Return On Capital Employed (ROCE)

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Dongnan ElectronicsLtd:

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

0.038 = CN¥32m ÷ (CN¥912m - CN¥46m) (Based on the trailing twelve months to March 2024).

So, Dongnan ElectronicsLtd has an ROCE of 3.8%. Ultimately, that's a low return and it under-performs the Electrical industry average of 6.0%.

Check out our latest analysis for Dongnan ElectronicsLtd

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'd like to look at how Dongnan ElectronicsLtd has performed in the past in other metrics, you can view this free graph of Dongnan ElectronicsLtd's past earnings, revenue and cash flow.

What Can We Tell From Dongnan ElectronicsLtd's ROCE Trend?

In terms of Dongnan ElectronicsLtd's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 3.8% from 27% 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, Dongnan ElectronicsLtd has decreased its current liabilities to 5.1% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

What We Can Learn From Dongnan ElectronicsLtd's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Dongnan ElectronicsLtd is reinvesting for growth and has higher sales as a result. However, despite the promising trends, the stock has fallen 28% over the last year, so there might be an opportunity here for astute investors. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

One final note, you should learn about the 3 warning signs we've spotted with Dongnan ElectronicsLtd (including 2 which are potentially serious) .

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.