Shanghai Hollywave Electronic System (SHSE:688682) Will Want To Turn Around Its Return Trends

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? 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. 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 Shanghai Hollywave Electronic System (SHSE:688682) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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. Analysts use this formula to calculate it for Shanghai Hollywave Electronic System:

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

0.057 = CN¥40m ÷ (CN¥970m - CN¥270m) (Based on the trailing twelve months to December 2023).

So, Shanghai Hollywave Electronic System has an ROCE of 5.7%. On its own that's a low return, but compared to the average of 2.8% generated by the Software industry, it's much better.

Check out our latest analysis for Shanghai Hollywave Electronic System

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

What The Trend Of ROCE Can Tell Us

In terms of Shanghai Hollywave Electronic System's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 46% over the last five years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. If these investments prove successful, this can bode very well for long term stock performance.

On a related note, Shanghai Hollywave Electronic System has decreased its current liabilities to 28% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. 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.

What We Can Learn From Shanghai Hollywave Electronic System's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Shanghai Hollywave Electronic System is reinvesting for growth and has higher sales as a result. However, despite the promising trends, the stock has fallen 56% over the last year, so there might be an opportunity here for astute investors. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

One more thing to note, we've identified 3 warning signs with Shanghai Hollywave Electronic System and understanding these should be part of your investment process.

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.