Be Wary Of Henan Jinma Energy (HKG:6885) And 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? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after investigating Henan Jinma Energy (HKG:6885), we don't think it's current trends fit the mold of a multi-bagger.

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. To calculate this metric for Henan Jinma Energy, this is the formula:

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

0.017 = CN¥109m ÷ (CN¥12b - CN¥5.3b) (Based on the trailing twelve months to June 2023).

Thus, Henan Jinma Energy has an ROCE of 1.7%. In absolute terms, that's a low return and it also under-performs the Metals and Mining industry average of 8.4%.

See our latest analysis for Henan Jinma Energy

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you want to delve into the historical earnings, revenue and cash flow of Henan Jinma Energy, check out these free graphs here.

What Does the ROCE Trend For Henan Jinma Energy Tell Us?

On the surface, the trend of ROCE at Henan Jinma Energy doesn't inspire confidence. Around five years ago the returns on capital were 42%, but since then they've fallen to 1.7%. However it looks like Henan Jinma Energy 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's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a side note, Henan Jinma Energy's current liabilities are still rather high at 45% of total assets. 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

In summary, Henan Jinma Energy is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. And investors appear hesitant that the trends will pick up because the stock has fallen 45% in the last five years. All in all, the inherent trends aren't typical of multi-baggers, so if that's what you're after, we think you might have more luck elsewhere.

One more thing: We've identified 6 warning signs with Henan Jinma Energy (at least 2 which make us uncomfortable) , and understanding these would certainly be useful.

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.