Is Zhejiang Tengy Environmental Technology (HKG:1527) Likely To Turn Things Around?

If you're looking for a multi-bagger, there's a few things to keep an eye out for. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. In light of that, when we looked at Zhejiang Tengy Environmental Technology (HKG:1527) and its ROCE trend, we weren't exactly thrilled.

What is 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. To calculate this metric for Zhejiang Tengy Environmental Technology, this is the formula:

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

0.0066 = CN¥5.0m ÷ (CN¥1.5b - CN¥773m) (Based on the trailing twelve months to June 2020).

Therefore, Zhejiang Tengy Environmental Technology has an ROCE of 0.7%. In absolute terms, that's a low return and it also under-performs the Machinery industry average of 8.8%.

Check out our latest analysis for Zhejiang Tengy Environmental Technology

Historical performance is a great place to start when researching a stock so above you can see the gauge for Zhejiang Tengy Environmental Technology's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Zhejiang Tengy Environmental Technology, check out these free graphs here.

The Trend Of ROCE

When we looked at the ROCE trend at Zhejiang Tengy Environmental Technology, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 0.7% from 34% five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

On a related note, Zhejiang Tengy Environmental Technology has decreased its current liabilities to 50% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

The Bottom Line

We're a bit apprehensive about Zhejiang Tengy Environmental Technology because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Unsurprisingly then, the stock has dived 81% over the last five years, so investors are recognizing these changes and don't like the company's prospects. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

On a final note, we found 3 warning signs for Zhejiang Tengy Environmental Technology (1 is concerning) you should be aware of.

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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