There Are Reasons To Feel Uneasy About Hengfeng Information Technology's (SZSE:300605) Returns On Capital

To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. Although, when we looked at Hengfeng Information Technology (SZSE:300605), it didn't seem to tick all of these boxes.

What Is 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. The formula for this calculation on Hengfeng Information Technology is:

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

0.023 = CN¥18m ÷ (CN¥1.3b - CN¥535m) (Based on the trailing twelve months to September 2023).

Therefore, Hengfeng Information Technology has an ROCE of 2.3%. Ultimately, that's a low return and it under-performs the IT industry average of 4.3%.

See our latest analysis for Hengfeng Information Technology

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're interested in investigating Hengfeng Information Technology's past further, check out this free graph covering Hengfeng Information Technology's past earnings, revenue and cash flow.

What Does the ROCE Trend For Hengfeng Information Technology Tell Us?

The trend of ROCE doesn't look fantastic because it's fallen from 10.0% five years ago, while the business's capital employed increased by 68%. However, some of the increase in capital employed could be attributed to the recent capital raising that's been completed prior to their latest reporting period, so keep that in mind when looking at the ROCE decrease. Hengfeng Information Technology probably hasn't received a full year of earnings yet from the new funds it raised, so these figures should be taken with a grain of salt.

Our Take On Hengfeng Information Technology's ROCE

We're a bit apprehensive about Hengfeng Information Technology because despite more capital being deployed in the business, returns on that capital and sales have both fallen. It should come as no surprise then that the stock has fallen 28% over the last five 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 5 warning signs for Hengfeng Information Technology (of which 3 shouldn't be ignored!) that you should know about.

While Hengfeng Information Technology 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.