China Graphite Group (HKG:2237) Is Reinvesting At Lower Rates Of Return

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. 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. However, after investigating China Graphite Group (HKG:2237), we don't think it's current trends fit the mold of a multi-bagger.

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. To calculate this metric for China Graphite Group, this is the formula:

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

0.16 = CN¥68m ÷ (CN¥476m - CN¥46m) (Based on the trailing twelve months to June 2023).

Thus, China Graphite Group has an ROCE of 16%. In absolute terms, that's a satisfactory return, but compared to the Metals and Mining industry average of 8.7% it's much better.

See our latest analysis for China Graphite Group

Historical performance is a great place to start when researching a stock so above you can see the gauge for China Graphite Group's ROCE against it's prior returns. If you'd like to look at how China Graphite Group has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

How Are Returns Trending?

In terms of China Graphite Group's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 30% over the last three years. However it looks like China Graphite Group might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.

On a related note, China Graphite Group has decreased its current liabilities to 9.7% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Bottom Line

Bringing it all together, while we're somewhat encouraged by China Graphite Group's reinvestment in its own business, we're aware that returns are shrinking. And in the last year, the stock has given away 57% so the market doesn't look too hopeful on these trends strengthening any time soon. 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.

If you want to know some of the risks facing China Graphite Group we've found 3 warning signs (1 is a bit concerning!) that you should be aware of before investing here.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.