The Returns On Capital At AviChina Industry & Technology (HKG:2357) Don't Inspire Confidence

There are a few key trends to look for if we want to identify the next multi-bagger. 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Having said that, from a first glance at AviChina Industry & Technology (HKG:2357) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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

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 AviChina Industry & Technology is:

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

0.054 = CN¥5.0b ÷ (CN¥178b - CN¥84b) (Based on the trailing twelve months to June 2023).

Therefore, AviChina Industry & Technology has an ROCE of 5.4%. On its own, that's a low figure but it's around the 5.9% average generated by the Aerospace & Defense industry.

See our latest analysis for AviChina Industry & Technology

In the above chart we have measured AviChina Industry & Technology's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What The Trend Of ROCE Can Tell Us

The trend of ROCE doesn't look fantastic because it's fallen from 6.7% five years ago, while the business's capital employed increased by 136%. That being said, AviChina Industry & Technology raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. The funds raised likely haven't been put to work yet so it's worth watching what happens in the future with AviChina Industry & Technology's earnings and if they change as a result from the capital raise. It's also worth noting the company's latest EBIT figure is within 10% of the previous year, so it's fair to assign the ROCE drop largely to the capital raise.

On a side note, AviChina Industry & Technology's current liabilities are still rather high at 47% of total assets. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

What We Can Learn From AviChina Industry & Technology's ROCE

Bringing it all together, while we're somewhat encouraged by AviChina Industry & Technology's reinvestment in its own business, we're aware that returns are shrinking. Since the stock has declined 29% over the last five years, investors may not be too optimistic on this trend improving either. On the whole, we aren't too inspired by the underlying trends and we think there may be better chances of finding a multi-bagger elsewhere.

One more thing to note, we've identified 1 warning sign with AviChina Industry & Technology and understanding this should be part of your investment process.

While AviChina Industry & 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.