Capital Allocation Trends At Sunlour PigmentLtd (SZSE:301036) Aren't Ideal

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding 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. However, after briefly looking over the numbers, we don't think Sunlour PigmentLtd (SZSE:301036) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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. Analysts use this formula to calculate it for Sunlour PigmentLtd:

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

0.077 = CN¥129m ÷ (CN¥1.8b - CN¥164m) (Based on the trailing twelve months to September 2024).

So, Sunlour PigmentLtd has an ROCE of 7.7%. On its own that's a low return, but compared to the average of 5.4% generated by the Chemicals industry, it's much better.

Check out our latest analysis for Sunlour PigmentLtd

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how Sunlour PigmentLtd has performed in the past in other metrics, you can view this free graph of Sunlour PigmentLtd's past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

In terms of Sunlour PigmentLtd's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 7.7% from 13% five years ago. 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 related note, Sunlour PigmentLtd has decreased its current liabilities to 9.0% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

What We Can Learn From Sunlour PigmentLtd's ROCE

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Sunlour PigmentLtd. Furthermore the stock has climbed 38% over the last three years, it would appear that investors are upbeat about the future. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

One final note, you should learn about the 3 warning signs we've spotted with Sunlour PigmentLtd (including 2 which shouldn't be ignored) .

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive 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.