Investors Could Be Concerned With Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou's (SZSE:000523) Returns On Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding 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. In light of that, when we looked at Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou (SZSE:000523) and its ROCE trend, we weren't exactly thrilled.

Return On Capital Employed (ROCE): What Is It?

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. To calculate this metric for Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou, this is the formula:

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

0.039 = CN¥110m ÷ (CN¥3.5b - CN¥596m) (Based on the trailing twelve months to September 2024).

Therefore, Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou has an ROCE of 3.9%. Even though it's in line with the industry average of 3.8%, it's still a low return by itself.

See our latest analysis for Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou

Historical performance is a great place to start when researching a stock so above you can see the gauge for Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou's ROCE against it's prior returns. If you'd like to look at how Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou has performed in the past in other metrics, you can view this free graph of Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou's past earnings, revenue and cash flow.

What Does the ROCE Trend For Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou Tell Us?

The trend of ROCE doesn't look fantastic because it's fallen from 11% five years ago, while the business's capital employed increased by 38%. That being said, Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. The funds raised likely haven't been put to work yet so it's worth watching what happens in the future with Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou's earnings and if they change as a result from the capital raise.

On a related note, Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou has decreased its current liabilities to 17% of total assets. Considering it used to be 72%, that's a huge drop in that ratio and it would explain the decline in ROCE. 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.

Our Take On Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou's ROCE

We're a bit apprehensive about Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Investors haven't taken kindly to these developments, since the stock has declined 49% from where it was five years ago. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

On a final note, we've found 1 warning sign for Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou that we think you should be aware of.

While Hongmian Zhihui Science and Technology InnovationLtd.Guangzhou 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.