Be Wary Of ZJMI Environmental Energy (SHSE:603071) And Its 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. 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. So while ZJMI Environmental Energy (SHSE:603071) has a high ROCE right now, lets see what we can decipher from how returns are changing.

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. The formula for this calculation on ZJMI Environmental Energy is:

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

0.21 = CN¥1.4b ÷ (CN¥12b - CN¥5.1b) (Based on the trailing twelve months to March 2024).

Therefore, ZJMI Environmental Energy has an ROCE of 21%. That's a fantastic return and not only that, it outpaces the average of 11% earned by companies in a similar industry.

View our latest analysis for ZJMI Environmental Energy

Above you can see how the current ROCE for ZJMI Environmental Energy 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 ZJMI Environmental Energy .

What Can We Tell From ZJMI Environmental Energy's ROCE Trend?

On the surface, the trend of ROCE at ZJMI Environmental Energy doesn't inspire confidence. To be more specific, while the ROCE is still high, it's fallen from 32% where it was five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

On a side note, ZJMI Environmental Energy has done well to pay down its current liabilities to 44% 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. Keep in mind 44% is still pretty high, so those risks are still somewhat prevalent.

What We Can Learn From ZJMI Environmental Energy's ROCE

From the above analysis, we find it rather worrisome that returns on capital and sales for ZJMI Environmental Energy 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 23% over the last year, so it looks like investors are recognizing these changes. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

If you'd like to know more about ZJMI Environmental Energy, we've spotted 2 warning signs, and 1 of them is a bit concerning.

ZJMI Environmental Energy is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.

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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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