Capital Allocation Trends At Wuhan Tianyu Information Industry (SZSE:300205) Aren't Ideal

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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. In light of that, when we looked at Wuhan Tianyu Information Industry (SZSE:300205) and its ROCE trend, we weren't exactly thrilled.

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 Wuhan Tianyu Information Industry is:

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

0.03 = CN¥49m ÷ (CN¥3.0b - CN¥1.4b) (Based on the trailing twelve months to September 2023).

Thus, Wuhan Tianyu Information Industry has an ROCE of 3.0%. Ultimately, that's a low return and it under-performs the Tech industry average of 5.9%.

See our latest analysis for Wuhan Tianyu Information Industry

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

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at Wuhan Tianyu Information Industry, we didn't gain much confidence. Around five years ago the returns on capital were 6.3%, but since then they've fallen to 3.0%. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

On a side note, Wuhan Tianyu Information Industry's current liabilities are still rather high at 46% of total assets. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

What We Can Learn From Wuhan Tianyu Information Industry's ROCE

Bringing it all together, while we're somewhat encouraged by Wuhan Tianyu Information Industry's reinvestment in its own business, we're aware that returns are shrinking. And investors appear hesitant that the trends will pick up because the stock has fallen 46% in the last five years. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.

On a final note, we found 4 warning signs for Wuhan Tianyu Information Industry (2 make us uncomfortable) 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.