Hangzhou Huawang New Material TechnologyLtd (SHSE:605377) May Have Issues Allocating Its Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount 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 Hangzhou Huawang New Material TechnologyLtd (SHSE:605377) and its ROCE trend, we weren't exactly thrilled.

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. To calculate this metric for Hangzhou Huawang New Material TechnologyLtd, this is the formula:

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

0.15 = CN¥616m ÷ (CN¥5.8b - CN¥1.5b) (Based on the trailing twelve months to March 2024).

Therefore, Hangzhou Huawang New Material TechnologyLtd has an ROCE of 15%. On its own, that's a standard return, however it's much better than the 6.3% generated by the Forestry industry.

View our latest analysis for Hangzhou Huawang New Material TechnologyLtd

In the above chart we have measured Hangzhou Huawang New Material TechnologyLtd'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 Hangzhou Huawang New Material TechnologyLtd for free.

What Does the ROCE Trend For Hangzhou Huawang New Material TechnologyLtd Tell Us?

In terms of Hangzhou Huawang New Material TechnologyLtd's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 19% over the last five years. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, Hangzhou Huawang New Material TechnologyLtd has done well to pay down its current liabilities to 27% 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.

In Conclusion...

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Hangzhou Huawang New Material TechnologyLtd. These trends don't appear to have influenced returns though, because the total return from the stock has been mostly flat over the last three years. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

One more thing: We've identified 2 warning signs with Hangzhou Huawang New Material TechnologyLtd (at least 1 which is concerning) , and understanding them would certainly be useful.

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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.

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