Jiangxi Welgao Electronics (SZSE:301251) Might Be Having Difficulty Using Its Capital Effectively

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. However, after investigating Jiangxi Welgao Electronics (SZSE:301251), we don't think it's current trends fit the mold of a multi-bagger.

Return On Capital Employed (ROCE): What Is It?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Jiangxi Welgao Electronics:

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

0.027 = CN¥41m ÷ (CN¥2.3b - CN¥837m) (Based on the trailing twelve months to September 2024).

So, Jiangxi Welgao Electronics has an ROCE of 2.7%. In absolute terms, that's a low return and it also under-performs the Electronic industry average of 5.5%.

View our latest analysis for Jiangxi Welgao Electronics

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'd like to look at how Jiangxi Welgao Electronics has performed in the past in other metrics, you can view this free graph of Jiangxi Welgao Electronics' past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at Jiangxi Welgao Electronics, we didn't gain much confidence. Around four years ago the returns on capital were 25%, but since then they've fallen to 2.7%. 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. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Jiangxi Welgao Electronics has done well to pay down its current liabilities to 36% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. 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 Jiangxi Welgao Electronics' ROCE

While returns have fallen for Jiangxi Welgao Electronics in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And the stock has followed suit returning a meaningful 24% to shareholders over the last year. So while investors seem to be recognizing these promising trends, we would look further into this stock to make sure the other metrics justify the positive view.

Jiangxi Welgao Electronics does come with some risks though, we found 2 warning signs in our investment analysis, and 1 of those shouldn't be ignored...

While Jiangxi Welgao Electronics 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.