Here's What To Make Of China Railway Signal & Communication's (HKG:3969) Returns On Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount 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 Railway Signal & Communication (HKG:3969), 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. The formula for this calculation on China Railway Signal & Communication is:

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

0.092 = CN¥4.3b ÷ (CN¥99b - CN¥52b) (Based on the trailing twelve months to September 2020).

Thus, China Railway Signal & Communication has an ROCE of 9.2%. In absolute terms, that's a low return, but it's much better than the Electronic industry average of 7.7%.

View our latest analysis for China Railway Signal & Communication

In the above chart we have measured China Railway Signal & Communication's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering China Railway Signal & Communication here for free.

What Does the ROCE Trend For China Railway Signal & Communication Tell Us?

In terms of China Railway Signal & Communication's historical ROCE trend, it doesn't exactly demand attention. The company has consistently earned 9.2% for the last five years, and the capital employed within the business has risen 123% in that time. 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 separate but related note, it's important to know that China Railway Signal & Communication has a current liabilities to total assets ratio of 53%, which we'd consider pretty high. 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. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

Our Take On China Railway Signal & Communication's ROCE

Long story short, while China Railway Signal & Communication has been reinvesting its capital, the returns that it's generating haven't increased. Since the stock has declined 31% over the last five years, investors may not be too optimistic on this trend improving either. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.

One more thing, we've spotted 1 warning sign facing China Railway Signal & Communication that you might find interesting.

While China Railway Signal & Communication 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. 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.
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