There Are Reasons To Feel Uneasy About SMARTGEN (Zhengzhou) Technology's (SZSE:301361) Returns On Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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 SMARTGEN (Zhengzhou) Technology (SZSE:301361) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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Understanding 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. The formula for this calculation on SMARTGEN (Zhengzhou) Technology is:

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

0.052 = CN¥59m ÷ (CN¥1.2b - CN¥44m) (Based on the trailing twelve months to September 2024).

So, SMARTGEN (Zhengzhou) Technology has an ROCE of 5.2%. In absolute terms, that's a low return but it's around the Electronic industry average of 5.8%.

Check out our latest analysis for SMARTGEN (Zhengzhou) 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 want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of SMARTGEN (Zhengzhou) Technology.

The Trend Of ROCE

In terms of SMARTGEN (Zhengzhou) Technology's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 5.2% from 31% five years ago. However it looks like SMARTGEN (Zhengzhou) Technology might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.

On a related note, SMARTGEN (Zhengzhou) Technology has decreased its current liabilities to 3.7% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

What We Can Learn From SMARTGEN (Zhengzhou) Technology's ROCE

In summary, SMARTGEN (Zhengzhou) Technology is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Since the stock has gained an impressive 74% over the last year, investors must think there's better things to come. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.

SMARTGEN (Zhengzhou) Technology does have some risks though, and we've spotted 1 warning sign for SMARTGEN (Zhengzhou) Technology that you might be interested in.

While SMARTGEN (Zhengzhou) 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.

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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.