Capital Allocation Trends At Guangdong Deerma Technology (SZSE:301332) Aren't Ideal

What trends should we look for it we want to identify stocks that can multiply in value over the long term? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Guangdong Deerma Technology (SZSE:301332) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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. Analysts use this formula to calculate it for Guangdong Deerma Technology:

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

0.02 = CN¥59m ÷ (CN¥4.3b - CN¥1.4b) (Based on the trailing twelve months to September 2024).

So, Guangdong Deerma Technology has an ROCE of 2.0%. Ultimately, that's a low return and it under-performs the Consumer Durables industry average of 9.6%.

Check out our latest analysis for Guangdong Deerma Technology

In the above chart we have measured Guangdong Deerma Technology's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Guangdong Deerma Technology .

What Can We Tell From Guangdong Deerma Technology's ROCE Trend?

When we looked at the ROCE trend at Guangdong Deerma Technology, we didn't gain much confidence. To be more specific, ROCE has fallen from 15% over the last five years. However it looks like Guangdong Deerma Technology 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, Guangdong Deerma Technology has done well to pay down its current liabilities to 33% of total assets. That could partly explain why the ROCE has dropped. 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line

To conclude, we've found that Guangdong Deerma Technology is reinvesting in the business, but returns have been falling. And investors appear hesitant that the trends will pick up because the stock has fallen 22% in the last year. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.

One more thing, we've spotted 3 warning signs facing Guangdong Deerma Technology that you might find interesting.

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.