Investors Could Be Concerned With Transfar Zhilian's (SZSE:002010) Returns On Capital

What trends should we look for it we want to identify stocks that can multiply in value over the long term? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after briefly looking over the numbers, we don't think Transfar Zhilian (SZSE:002010) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What Is Return On Capital Employed (ROCE)?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for Transfar Zhilian, this is the formula:

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

0.036 = CN¥1.0b ÷ (CN¥41b - CN¥13b) (Based on the trailing twelve months to June 2024).

Thus, Transfar Zhilian has an ROCE of 3.6%. 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 Transfar Zhilian

Above you can see how the current ROCE for Transfar Zhilian compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Transfar Zhilian for free.

The Trend Of ROCE

On the surface, the trend of ROCE at Transfar Zhilian doesn't inspire confidence. Around five years ago the returns on capital were 9.1%, but since then they've fallen to 3.6%. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

The Key Takeaway

In summary, we're somewhat concerned by Transfar Zhilian's diminishing returns on increasing amounts of capital. It should come as no surprise then that the stock has fallen 46% over the last five years, so it looks like investors are recognizing these changes. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

One more thing: We've identified 3 warning signs with Transfar Zhilian (at least 1 which can't be ignored) , and understanding these would certainly be useful.

While Transfar Zhilian 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.