Hwaxin EnvironmentalLtd's (SZSE:301265) Returns On Capital Not Reflecting Well On The Business

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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 Hwaxin EnvironmentalLtd (SZSE:301265), we don't think it's current trends fit the mold of a multi-bagger.

What Is 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. To calculate this metric for Hwaxin EnvironmentalLtd, this is the formula:

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

0.02 = CN¥45m ÷ (CN¥2.3b - CN¥92m) (Based on the trailing twelve months to June 2024).

Thus, Hwaxin EnvironmentalLtd has an ROCE of 2.0%. Ultimately, that's a low return and it under-performs the Commercial Services industry average of 5.6%.

Check out our latest analysis for Hwaxin EnvironmentalLtd

Historical performance is a great place to start when researching a stock so above you can see the gauge for Hwaxin EnvironmentalLtd's ROCE against it's prior returns. If you want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of Hwaxin EnvironmentalLtd.

The Trend Of ROCE

When we looked at the ROCE trend at Hwaxin EnvironmentalLtd, we didn't gain much confidence. Around five years ago the returns on capital were 13%, but since then they've fallen to 2.0%. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a related note, Hwaxin EnvironmentalLtd has decreased its current liabilities to 4.0% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. 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.

What We Can Learn From Hwaxin EnvironmentalLtd's ROCE

From the above analysis, we find it rather worrisome that returns on capital and sales for Hwaxin EnvironmentalLtd have fallen, meanwhile the business is employing more capital than it was five years ago. It should come as no surprise then that the stock has fallen 20% over the last year, so it looks like investors are recognizing these changes. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

On a final note, we found 2 warning signs for Hwaxin EnvironmentalLtd (1 is significant) you should be aware of.

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.