Returns On Capital Signal Tricky Times Ahead For Shanghai Milkground Food Tech (SHSE:600882)

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. 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. Although, when we looked at Shanghai Milkground Food Tech (SHSE:600882), it didn't seem to tick all of these boxes.

Understanding 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. Analysts use this formula to calculate it for Shanghai Milkground Food Tech:

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

0.01 = CN¥52m ÷ (CN¥6.8b - CN¥1.7b) (Based on the trailing twelve months to March 2024).

Therefore, Shanghai Milkground Food Tech has an ROCE of 1.0%. Ultimately, that's a low return and it under-performs the Food industry average of 7.6%.

View our latest analysis for Shanghai Milkground Food Tech

In the above chart we have measured Shanghai Milkground Food Tech's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Shanghai Milkground Food Tech for free.

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at Shanghai Milkground Food Tech, we didn't gain much confidence. To be more specific, ROCE has fallen from 3.2% over the last five years. 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, Shanghai Milkground Food Tech has decreased its current liabilities to 25% 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. 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 Key Takeaway

We're a bit apprehensive about Shanghai Milkground Food Tech because despite more capital being deployed in the business, returns on that capital and sales have both fallen. However the stock has delivered a 63% return to shareholders over the last five years, so investors might be expecting the trends to turn around. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

If you'd like to know about the risks facing Shanghai Milkground Food Tech, we've discovered 1 warning sign that 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.