There Are Reasons To Feel Uneasy About Zhejiang Wanfeng ChemicalLtd's (SHSE:603172) 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Although, when we looked at Zhejiang Wanfeng ChemicalLtd (SHSE:603172), it didn't seem to tick all of these boxes.

What Is Return On Capital Employed (ROCE)?

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. To calculate this metric for Zhejiang Wanfeng ChemicalLtd, this is the formula:

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

0.025 = CN¥27m ÷ (CN¥1.4b - CN¥294m) (Based on the trailing twelve months to September 2024).

Therefore, Zhejiang Wanfeng ChemicalLtd has an ROCE of 2.5%. Ultimately, that's a low return and it under-performs the Chemicals industry average of 5.5%.

View our latest analysis for Zhejiang Wanfeng ChemicalLtd

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 want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of Zhejiang Wanfeng ChemicalLtd.

The Trend Of ROCE

In terms of Zhejiang Wanfeng ChemicalLtd's historical ROCE movements, the trend isn't fantastic. Over the last four years, returns on capital have decreased to 2.5% from 22% four years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.

On a side note, Zhejiang Wanfeng ChemicalLtd has done well to pay down its current liabilities to 21% 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

Bringing it all together, while we're somewhat encouraged by Zhejiang Wanfeng ChemicalLtd's reinvestment in its own business, we're aware that returns are shrinking. Since the stock has declined 11% over the last year, investors may not be too optimistic on this trend improving either. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.

Zhejiang Wanfeng ChemicalLtd does come with some risks though, we found 4 warning signs in our investment analysis, and 1 of those shouldn't be ignored...

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.