Returns On Capital Signal Tricky Times Ahead For Tongda Smart Tech (Xiamen) (SZSE:001368)

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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 Tongda Smart Tech (Xiamen) (SZSE:001368) 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)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on Tongda Smart Tech (Xiamen) is:

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

0.067 = CN¥95m ÷ (CN¥1.7b - CN¥282m) (Based on the trailing twelve months to June 2024).

Thus, Tongda Smart Tech (Xiamen) has an ROCE of 6.7%. On its own that's a low return on capital but it's in line with the industry's average returns of 6.7%.

Check out our latest analysis for Tongda Smart Tech (Xiamen)

Above you can see how the current ROCE for Tongda Smart Tech (Xiamen) 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 Tongda Smart Tech (Xiamen) .

What Does the ROCE Trend For Tongda Smart Tech (Xiamen) Tell Us?

In terms of Tongda Smart Tech (Xiamen)'s historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 21%, but since then they've fallen to 6.7%. 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a related note, Tongda Smart Tech (Xiamen) has decreased its current liabilities to 17% 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. 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 Tongda Smart Tech (Xiamen)'s ROCE

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Tongda Smart Tech (Xiamen). These growth trends haven't led to growth returns though, since the stock has fallen 19% over the last year. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

One more thing to note, we've identified 1 warning sign with Tongda Smart Tech (Xiamen) and understanding this should be part of your investment process.

While Tongda Smart Tech (Xiamen) may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.