Returns At Dongfang Electric (HKG:1072) Are On The Way Up

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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. With that in mind, we've noticed some promising trends at Dongfang Electric (HKG:1072) so let's look a bit deeper.

Understanding 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. Analysts use this formula to calculate it for Dongfang Electric:

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

0.041 = CN¥1.9b ÷ (CN¥114b - CN¥66b) (Based on the trailing twelve months to September 2022).

So, Dongfang Electric has an ROCE of 4.1%. In absolute terms, that's a low return and it also under-performs the Electrical industry average of 6.6%.

Our analysis indicates that 1072 is potentially undervalued!

In the above chart we have measured Dongfang Electric's 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 report for Dongfang Electric.

So How Is Dongfang Electric's ROCE Trending?

The fact that Dongfang Electric is now generating some pre-tax profits from its prior investments is very encouraging. Shareholders would no doubt be pleased with this because the business was loss-making five years ago but is is now generating 4.1% on its capital. Not only that, but the company is utilizing 85% more capital than before, but that's to be expected from a company trying to break into profitability. This can tell us that the company has plenty of reinvestment opportunities that are able to generate higher returns.

Another thing to note, Dongfang Electric has a high ratio of current liabilities to total assets of 58%. 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. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Key Takeaway

Overall, Dongfang Electric gets a big tick from us thanks in most part to the fact that it is now profitable and is reinvesting in its business. And a remarkable 146% total return over the last five years tells us that investors are expecting more good things to come in the future. In light of that, we think it's worth looking further into this stock because if Dongfang Electric can keep these trends up, it could have a bright future ahead.

While Dongfang Electric looks impressive, no company is worth an infinite price. The intrinsic value infographic in our free research report helps visualize whether 1072 is currently trading for a fair price.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.