Returns On Capital At Shenzhen Gas (SHSE:601139) Have Stalled

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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 Shenzhen Gas (SHSE:601139) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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 Shenzhen Gas is:

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

0.081 = CN¥1.9b ÷ (CN¥46b - CN¥22b) (Based on the trailing twelve months to March 2024).

Thus, Shenzhen Gas has an ROCE of 8.1%. In absolute terms, that's a low return but it's around the Gas Utilities industry average of 9.4%.

See our latest analysis for Shenzhen Gas

In the above chart we have measured Shenzhen Gas' prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Shenzhen Gas .

What Does the ROCE Trend For Shenzhen Gas Tell Us?

In terms of Shenzhen Gas' historical ROCE trend, it doesn't exactly demand attention. The company has employed 74% more capital in the last five years, and the returns on that capital have remained stable at 8.1%. This poor ROCE doesn't inspire confidence right now, and with the increase in capital employed, it's evident that the business isn't deploying the funds into high return investments.

Another point to note, we noticed the company has increased current liabilities over the last five years. This is intriguing because if current liabilities hadn't increased to 48% of total assets, this reported ROCE would probably be less than8.1% because total capital employed would be higher.The 8.1% ROCE could be even lower if current liabilities weren't 48% of total assets, because the the formula would show a larger base of total capital employed. So with current liabilities at such high levels, this effectively means the likes of suppliers or short-term creditors are funding a meaningful part of the business, which in some instances can bring some risks.

In Conclusion...

As we've seen above, Shenzhen Gas' returns on capital haven't increased but it is reinvesting in the business. Although the market must be expecting these trends to improve because the stock has gained 54% over the last five years. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

On a final note, we found 2 warning signs for Shenzhen Gas (1 is significant) you should be aware of.

While Shenzhen Gas 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.