Zhengzhou Coal Mining Machinery Group (HKG:564) Is Looking To Continue Growing Its Returns On Capital

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. With that in mind, we've noticed some promising trends at Zhengzhou Coal Mining Machinery Group (HKG:564) so let's look a bit deeper.

Understanding Return On Capital Employed (ROCE)

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. The formula for this calculation on Zhengzhou Coal Mining Machinery Group is:

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

0.11 = CN¥2.6b ÷ (CN¥36b - CN¥13b) (Based on the trailing twelve months to December 2021).

Therefore, Zhengzhou Coal Mining Machinery Group has an ROCE of 11%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Machinery industry average of 9.9%.

See our latest analysis for Zhengzhou Coal Mining Machinery Group

Above you can see how the current ROCE for Zhengzhou Coal Mining Machinery Group compares to its prior returns on capital, but there's only so much you can tell from the past. 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 fact that Zhengzhou Coal Mining Machinery Group is now generating some pre-tax profits from its prior investments is very encouraging. The company was generating losses five years ago, but now it's earning 11% which is a sight for sore eyes. In addition to that, Zhengzhou Coal Mining Machinery Group is employing 134% more capital than previously which is expected of a company that's trying to break into profitability. This can tell us that the company has plenty of reinvestment opportunities that are able to generate higher returns.

On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. Essentially the business now has suppliers or short-term creditors funding about 36% of its operations, which isn't ideal. It's worth keeping an eye on this because as the percentage of current liabilities to total assets increases, some aspects of risk also increase.

What We Can Learn From Zhengzhou Coal Mining Machinery Group's ROCE

Long story short, we're delighted to see that Zhengzhou Coal Mining Machinery Group's reinvestment activities have paid off and the company is now profitable. And investors seem to expect more of this going forward, since the stock has rewarded shareholders with a 55% return over the last five years. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

If you'd like to know about the risks facing Zhengzhou Coal Mining Machinery Group, we've discovered 3 warning signs that you should be aware of.

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. 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.