Stock Analysis
Some Investors May Be Worried About Shanghai Huayi Group's (SHSE:600623) Returns On Capital
If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. In light of that, when we looked at Shanghai Huayi Group (SHSE:600623) and its ROCE trend, we weren't exactly thrilled.
Understanding Return On Capital Employed (ROCE)
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. Analysts use this formula to calculate it for Shanghai Huayi Group:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.021 = CN¥729m ÷ (CN¥60b - CN¥25b) (Based on the trailing twelve months to March 2024).
So, Shanghai Huayi Group has an ROCE of 2.1%. In absolute terms, that's a low return and it also under-performs the Chemicals industry average of 5.5%.
View our latest analysis for Shanghai Huayi Group
Above you can see how the current ROCE for Shanghai Huayi Group 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 Shanghai Huayi Group .
How Are Returns Trending?
When we looked at the ROCE trend at Shanghai Huayi Group, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 2.1% from 5.9% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.
Another thing to note, Shanghai Huayi Group has a high ratio of current liabilities to total assets of 41%. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.
What We Can Learn From Shanghai Huayi Group's ROCE
Bringing it all together, while we're somewhat encouraged by Shanghai Huayi Group's reinvestment in its own business, we're aware that returns are shrinking. And in the last five years, the stock has given away 11% so the market doesn't look too hopeful on these trends strengthening any time soon. All in all, the inherent trends aren't typical of multi-baggers, so if that's what you're after, we think you might have more luck elsewhere.
Like most companies, Shanghai Huayi Group does come with some risks, and we've found 2 warning signs 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.
About SHSE:600623
Shanghai Huayi Group
Operates as a chemical company in China.