Wafer Works (Shanghai) (SHSE:688584) Is Experiencing Growth In Returns On Capital

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's 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. So when we looked at Wafer Works (Shanghai) (SHSE:688584) and its trend of ROCE, we really liked what we saw.

Understanding Return On Capital Employed (ROCE)

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. To calculate this metric for Wafer Works (Shanghai), this is the formula:

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

0.026 = CN¥108m ÷ (CN¥4.5b - CN¥325m) (Based on the trailing twelve months to September 2024).

Therefore, Wafer Works (Shanghai) has an ROCE of 2.6%. In absolute terms, that's a low return and it also under-performs the Semiconductor industry average of 5.0%.

Check out our latest analysis for Wafer Works (Shanghai)

Historical performance is a great place to start when researching a stock so above you can see the gauge for Wafer Works (Shanghai)'s ROCE against it's prior returns. If you'd like to look at how Wafer Works (Shanghai) has performed in the past in other metrics, you can view this free graph of Wafer Works (Shanghai)'s past earnings, revenue and cash flow.

How Are Returns Trending?

The fact that Wafer Works (Shanghai) is now generating some pre-tax profits from its prior investments is very encouraging. About five years ago the company was generating losses but things have turned around because it's now earning 2.6% on its capital. And unsurprisingly, like most companies trying to break into the black, Wafer Works (Shanghai) is utilizing 87% more capital than it was five years ago. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.

One more thing to note, Wafer Works (Shanghai) has decreased current liabilities to 7.2% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. Therefore we can rest assured that the growth in ROCE is a result of the business' fundamental improvements, rather than a cooking class featuring this company's books.

The Bottom Line

Overall, Wafer Works (Shanghai) gets a big tick from us thanks in most part to the fact that it is now profitable and is reinvesting in its business. Since the total return from the stock has been almost flat over the last year, there might be an opportunity here if the valuation looks good. So researching this company further and determining whether or not these trends will continue seems justified.

On a final note, we found 4 warning signs for Wafer Works (Shanghai) (2 don't sit too well with us) you should be aware of.

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.

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.