Jilin Province Chuncheng Heating (HKG:1853) Has More To Do To Multiply In Value Going Forward

What trends should we look for it we want to identify stocks that can 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. Having said that, from a first glance at Jilin Province Chuncheng Heating (HKG:1853) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Return On Capital Employed (ROCE): What Is It?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Jilin Province Chuncheng Heating, this is the formula:

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

0.065 = CN¥70m ÷ (CN¥2.3b - CN¥1.2b) (Based on the trailing twelve months to June 2022).

So, Jilin Province Chuncheng Heating has an ROCE of 6.5%. Even though it's in line with the industry average of 7.1%, it's still a low return by itself.

Our analysis indicates that 1853 is potentially undervalued!

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'd like to look at how Jilin Province Chuncheng Heating 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?

There hasn't been much to report for Jilin Province Chuncheng Heating's returns and its level of capital employed because both metrics have been steady for the past five years. It's not uncommon to see this when looking at a mature and stable business that isn't re-investing its earnings because it has likely passed that phase of the business cycle. So don't be surprised if Jilin Province Chuncheng Heating doesn't end up being a multi-bagger in a few years time.

Another thing to note, Jilin Province Chuncheng Heating has a high ratio of current liabilities to total assets of 54%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line

In a nutshell, Jilin Province Chuncheng Heating has been trudging along with the same returns from the same amount of capital over the last five years. Since the stock has gained an impressive 33% over the last three years, investors must think there's better things to come. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.

Jilin Province Chuncheng Heating does come with some risks though, we found 3 warning signs in our investment analysis, and 1 of those shouldn't be ignored...

While Jilin Province Chuncheng Heating isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.