China Energy Engineering (HKG:3996) Has Some Way To Go To Become A Multi-Bagger

To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. Although, when we looked at China Energy Engineering (HKG:3996), it didn't seem to tick all of these boxes.

Understanding 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. Analysts use this formula to calculate it for China Energy Engineering:

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

0.064 = CN¥17b ÷ (CN¥529b - CN¥271b) (Based on the trailing twelve months to December 2021).

Therefore, China Energy Engineering has an ROCE of 6.4%. In absolute terms, that's a low return and it also under-performs the Construction industry average of 8.5%.

Check out our latest analysis for China Energy Engineering

Above you can see how the current ROCE for China Energy Engineering 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 China Energy Engineering here for free.

The Trend Of ROCE

The returns on capital haven't changed much for China Energy Engineering in recent years. The company has employed 100% more capital in the last five years, and the returns on that capital have remained stable at 6.4%. Given the company has increased the amount of capital employed, it appears the investments that have been made simply don't provide a high return on capital.

On a side note, China Energy Engineering's current liabilities are still rather high at 51% 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. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

What We Can Learn From China Energy Engineering's ROCE

As we've seen above, China Energy Engineering's returns on capital haven't increased but it is reinvesting in the business. And investors appear hesitant that the trends will pick up because the stock has fallen 14% in the last five years. Therefore based on the analysis done in this article, we don't think China Energy Engineering has the makings of a multi-bagger.

On a final note, we found 3 warning signs for China Energy Engineering (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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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.