Investors Could Be Concerned With China Design Group's (SHSE:603018) Returns On Capital

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'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. However, after investigating China Design Group (SHSE:603018), we don't think it's current trends fit the mold of a multi-bagger.

Return On Capital Employed (ROCE): What Is It?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for China Design Group, this is the formula:

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

0.14 = CN¥772m ÷ (CN¥13b - CN¥6.9b) (Based on the trailing twelve months to March 2024).

Therefore, China Design Group has an ROCE of 14%. In absolute terms, that's a satisfactory return, but compared to the Professional Services industry average of 5.7% it's much better.

See our latest analysis for China Design Group

Above you can see how the current ROCE for China Design Group compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for China Design Group .

How Are Returns Trending?

When we looked at the ROCE trend at China Design Group, we didn't gain much confidence. Around five years ago the returns on capital were 18%, but since then they've fallen to 14%. However it looks like China Design Group 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 side note, China Design Group's current liabilities are still rather high at 55% of total assets. 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.

Our Take On China Design Group's ROCE

In summary, China Design Group is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. And with the stock having returned a mere 31% in the last five years to shareholders, you could argue that they're aware of these lackluster trends. As a result, if you're hunting for a multi-bagger, we think you'd have more luck elsewhere.

China Design Group does have some risks though, and we've spotted 1 warning sign for China Design Group that you might be interested in.

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.

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