Levima Advanced Materials (SZSE:003022) 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? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. 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 Levima Advanced Materials (SZSE:003022), it didn't seem to tick all of these boxes.

Understanding 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. Analysts use this formula to calculate it for Levima Advanced Materials:

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

0.0053 = CN¥59m ÷ (CN¥16b - CN¥5.0b) (Based on the trailing twelve months to September 2023).

Thus, Levima Advanced Materials has an ROCE of 0.5%. Ultimately, that's a low return and it under-performs the Chemicals industry average of 6.0%.

View our latest analysis for Levima Advanced Materials

In the above chart we have measured Levima Advanced Materials' prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Levima Advanced Materials .

How Are Returns Trending?

Unfortunately, the trend isn't great with ROCE falling from 11% five years ago, while capital employed has grown 191%. Usually this isn't ideal, but given Levima Advanced Materials conducted a capital raising before their most recent earnings announcement, that would've likely contributed, at least partially, to the increased capital employed figure. The funds raised likely haven't been put to work yet so it's worth watching what happens in the future with Levima Advanced Materials' earnings and if they change as a result from the capital raise.

On a related note, Levima Advanced Materials has decreased its current liabilities to 31% of total assets. So we could link some of this to the decrease in ROCE. 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 Key Takeaway

From the above analysis, we find it rather worrisome that returns on capital and sales for Levima Advanced Materials have fallen, meanwhile the business is employing more capital than it was five years ago. It should come as no surprise then that the stock has fallen 30% over the last three 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.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 4 warning signs for Levima Advanced Materials (of which 2 can't be ignored!) that you should know about.

While Levima Advanced Materials 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.