Hefei I-TEK OptoElectronics (SHSE:688610) Is Reinvesting At Lower Rates Of Return

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. However, after briefly looking over the numbers, we don't think Hefei I-TEK OptoElectronics (SHSE:688610) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What Is Return On Capital Employed (ROCE)?

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 Hefei I-TEK OptoElectronics:

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

0.0017 = CN¥2.5m ÷ (CN¥1.5b - CN¥65m) (Based on the trailing twelve months to September 2024).

So, Hefei I-TEK OptoElectronics has an ROCE of 0.2%. In absolute terms, that's a low return and it also under-performs the Electronic industry average of 5.6%.

Check out our latest analysis for Hefei I-TEK OptoElectronics

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

What Can We Tell From Hefei I-TEK OptoElectronics' ROCE Trend?

When we looked at the ROCE trend at Hefei I-TEK OptoElectronics, we didn't gain much confidence. Over the last three years, returns on capital have decreased to 0.2% from 7.8% three 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, Hefei I-TEK OptoElectronics has done well to pay down its current liabilities to 4.3% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line On Hefei I-TEK OptoElectronics' ROCE

While returns have fallen for Hefei I-TEK OptoElectronics in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. These trends are starting to be recognized by investors since the stock has delivered a 5.5% gain to shareholders who've held over the last year. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

Hefei I-TEK OptoElectronics does have some risks though, and we've spotted 1 warning sign for Hefei I-TEK OptoElectronics that you might be interested in.

While Hefei I-TEK OptoElectronics 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.

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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.