Returns Are Gaining Momentum At Dongguang Chemical (HKG:1702)

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. So on that note, Dongguang Chemical (HKG:1702) looks quite promising in regards to its trends of return on capital.

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. The formula for this calculation on Dongguang Chemical is:

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

0.16 = CN¥273m ÷ (CN¥1.9b - CN¥212m) (Based on the trailing twelve months to December 2022).

Thus, Dongguang Chemical has an ROCE of 16%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Chemicals industry average of 15%.

Check out our latest analysis for Dongguang Chemical

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

What Does the ROCE Trend For Dongguang Chemical Tell Us?

We like the trends that we're seeing from Dongguang Chemical. Over the last five years, returns on capital employed have risen substantially to 16%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 61%. So we're very much inspired by what we're seeing at Dongguang Chemical thanks to its ability to profitably reinvest capital.

On a related note, the company's ratio of current liabilities to total assets has decreased to 11%, which basically reduces it's funding from the likes of short-term creditors or suppliers. Therefore we can rest assured that the growth in ROCE is a result of the business' fundamental improvements, rather than a cooking class featuring this company's books.

The Bottom Line On Dongguang Chemical's ROCE

A company that is growing its returns on capital and can consistently reinvest in itself is a highly sought after trait, and that's what Dongguang Chemical has. Astute investors may have an opportunity here because the stock has declined 31% in the last five years. So researching this company further and determining whether or not these trends will continue seems justified.

If you'd like to know about the risks facing Dongguang Chemical, we've discovered 2 warning signs that you should be aware of.

While Dongguang Chemical 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.