Shandong Humon Smelting (SZSE:002237) Might Be Having Difficulty Using Its Capital Effectively

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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. Having said that, from a first glance at Shandong Humon Smelting (SZSE:002237) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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. The formula for this calculation on Shandong Humon Smelting is:

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

0.057 = CN¥875m ÷ (CN¥22b - CN¥6.6b) (Based on the trailing twelve months to December 2023).

Thus, Shandong Humon Smelting has an ROCE of 5.7%. In absolute terms, that's a low return but it's around the Metals and Mining industry average of 6.6%.

View our latest analysis for Shandong Humon Smelting

In the above chart we have measured Shandong Humon Smelting's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Shandong Humon Smelting .

The Trend Of ROCE

In terms of Shandong Humon Smelting's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 15% 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. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Shandong Humon Smelting has done well to pay down its current liabilities to 30% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Bottom Line

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Shandong Humon Smelting. These trends are starting to be recognized by investors since the stock has delivered a 23% gain to shareholders who've held over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 2 warning signs for Shandong Humon Smelting (of which 1 is potentially serious!) that you should know about.

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.