Returns On Capital Are Showing Encouraging Signs At Cangzhou Dahua (SHSE:600230)

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. So when we looked at Cangzhou Dahua (SHSE:600230) and its trend of ROCE, we really liked what we saw.

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 Cangzhou Dahua is:

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

0.0037 = CN¥18m ÷ (CN¥5.9b - CN¥1.2b) (Based on the trailing twelve months to September 2024).

Thus, Cangzhou Dahua has an ROCE of 0.4%. Ultimately, that's a low return and it under-performs the Chemicals industry average of 5.5%.

View our latest analysis for Cangzhou Dahua

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how Cangzhou Dahua has performed in the past in other metrics, you can view this free graph of Cangzhou Dahua's past earnings, revenue and cash flow.

How Are Returns Trending?

Shareholders will be relieved that Cangzhou Dahua has broken into profitability. The company was generating losses five years ago, but has managed to turn it around and as we saw earlier is now earning 0.4%, which is always encouraging. On top of that, what's interesting is that the amount of capital being employed has remained steady, so the business hasn't needed to put any additional money to work to generate these higher returns. So while we're happy that the business is more efficient, just keep in mind that could mean that going forward the business is lacking areas to invest internally for growth. So if you're looking for high growth, you'll want to see a business's capital employed also increasing.

On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. Essentially the business now has suppliers or short-term creditors funding about 20% of its operations, which isn't ideal. It's worth keeping an eye on this because as the percentage of current liabilities to total assets increases, some aspects of risk also increase.

The Bottom Line

To bring it all together, Cangzhou Dahua has done well to increase the returns it's generating from its capital employed. Investors may not be impressed by the favorable underlying trends yet because over the last five years the stock has only returned 31% to shareholders. Given that, we'd look further into this stock in case it has more traits that could make it multiply in the long term.

One more thing, we've spotted 3 warning signs facing Cangzhou Dahua 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.