Lingyi iTech (Guangdong)'s (SZSE:002600) Returns On Capital Not Reflecting Well On The Business

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, 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. Having said that, from a first glance at Lingyi iTech (Guangdong) (SZSE:002600) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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 Lingyi iTech (Guangdong):

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

0.13 = CN¥3.2b ÷ (CN¥38b - CN¥14b) (Based on the trailing twelve months to September 2023).

Therefore, Lingyi iTech (Guangdong) has an ROCE of 13%. On its own, that's a standard return, however it's much better than the 5.6% generated by the Electronic industry.

See our latest analysis for Lingyi iTech (Guangdong)

In the above chart we have measured Lingyi iTech (Guangdong)'s prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Lingyi iTech (Guangdong) .

What Can We Tell From Lingyi iTech (Guangdong)'s ROCE Trend?

We weren't thrilled with the trend because Lingyi iTech (Guangdong)'s ROCE has reduced by 30% over the last five years, while the business employed 115% more capital. That being said, Lingyi iTech (Guangdong) raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. The funds raised likely haven't been put to work yet so it's worth watching what happens in the future with Lingyi iTech (Guangdong)'s earnings and if they change as a result from the capital raise.

On a related note, Lingyi iTech (Guangdong) has decreased its current liabilities to 36% of total assets. So we could link some of this to the decrease in ROCE. 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.

Our Take On Lingyi iTech (Guangdong)'s ROCE

In summary, Lingyi iTech (Guangdong) is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Unsurprisingly then, the total return to shareholders over the last five years has been flat. On the whole, we aren't too inspired by the underlying trends and we think there may be better chances of finding a multi-bagger elsewhere.

On a final note, we've found 1 warning sign for Lingyi iTech (Guangdong) that we think you should be aware of.

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.