Investors Could Be Concerned With China Machinery Huanyu Certification and Inspection's (SZSE:301508) Returns On Capital

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. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after investigating China Machinery Huanyu Certification and Inspection (SZSE:301508), we don't think it's current trends fit the mold of a multi-bagger.

What Is Return On Capital Employed (ROCE)?

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 Machinery Huanyu Certification and Inspection, this is the formula:

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

0.055 = CN¥119m ÷ (CN¥2.5b - CN¥301m) (Based on the trailing twelve months to September 2024).

Thus, China Machinery Huanyu Certification and Inspection has an ROCE of 5.5%. In absolute terms, that's a low return but it's around the Professional Services industry average of 6.0%.

View our latest analysis for China Machinery Huanyu Certification and Inspection

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're interested in investigating China Machinery Huanyu Certification and Inspection's past further, check out this free graph covering China Machinery Huanyu Certification and Inspection's past earnings, revenue and cash flow.

What Can We Tell From China Machinery Huanyu Certification and Inspection's ROCE Trend?

When we looked at the ROCE trend at China Machinery Huanyu Certification and Inspection, we didn't gain much confidence. To be more specific, ROCE has fallen from 9.6% over the last four years. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

On a side note, China Machinery Huanyu Certification and Inspection has done well to pay down its current liabilities to 12% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. 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.

In Conclusion...

To conclude, we've found that China Machinery Huanyu Certification and Inspection is reinvesting in the business, but returns have been falling. Although the market must be expecting these trends to improve because the stock has gained 7.3% over the last year. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.

If you want to know some of the risks facing China Machinery Huanyu Certification and Inspection we've found 3 warning signs (1 is potentially serious!) that you should be aware of before investing here.

While China Machinery Huanyu Certification and Inspection isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.