Returns On Capital Signal Tricky Times Ahead For PhiChem (SZSE:300398)

To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. In light of that, when we looked at PhiChem (SZSE:300398) and its ROCE trend, we weren't exactly thrilled.

Return On Capital Employed (ROCE): What Is It?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on PhiChem is:

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

0.071 = CN¥355m ÷ (CN¥6.6b - CN¥1.6b) (Based on the trailing twelve months to September 2023).

Therefore, PhiChem has an ROCE of 7.1%. On its own that's a low return, but compared to the average of 5.6% generated by the Chemicals industry, it's much better.

Check out our latest analysis for PhiChem

In the above chart we have measured PhiChem'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 PhiChem .

So How Is PhiChem's ROCE Trending?

On the surface, the trend of ROCE at PhiChem doesn't inspire confidence. Over the last five years, returns on capital have decreased to 7.1% from 14% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

What We Can Learn From PhiChem's ROCE

Bringing it all together, while we're somewhat encouraged by PhiChem's reinvestment in its own business, we're aware that returns are shrinking. Since the stock has declined 14% over the last five years, investors may not be too optimistic on this trend improving either. Therefore based on the analysis done in this article, we don't think PhiChem has the makings of a multi-bagger.

While PhiChem doesn't shine too bright in this respect, it's still worth seeing if the company is trading at attractive prices. You can find that out with our FREE intrinsic value estimation for 300398 on our platform.

While PhiChem isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.