Returns On Capital At Shanghai Electric Group (HKG:2727) Paint An Interesting Picture

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. However, after briefly looking over the numbers, we don't think Shanghai Electric Group (HKG:2727) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Return On Capital Employed (ROCE): What is it?

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 Shanghai Electric Group:

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

0.04 = CN¥5.1b ÷ (CN¥313b - CN¥185b) (Based on the trailing twelve months to September 2020).

So, Shanghai Electric Group has an ROCE of 4.0%. In absolute terms, that's a low return and it also under-performs the Electrical industry average of 8.9%.

View our latest analysis for Shanghai Electric Group

Above you can see how the current ROCE for Shanghai Electric Group compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Shanghai Electric Group here for free.

What The Trend Of ROCE Can Tell Us

In terms of Shanghai Electric Group's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 7.0% over the last five years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

Another thing to note, Shanghai Electric Group has a high ratio of current liabilities to total assets of 59%. 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. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On Shanghai Electric Group's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Shanghai Electric Group is reinvesting for growth and has higher sales as a result. However, total returns to shareholders over the last five years have been flat, which could indicate these growth trends potentially aren't accounted for yet by investors. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

Shanghai Electric Group does have some risks though, and we've spotted 3 warning signs for Shanghai Electric Group that you might be interested in.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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This article by Simply Wall St is general in nature. 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.
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