China Motor (TWSE:2204) Is Experiencing Growth In 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? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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. With that in mind, we've noticed some promising trends at China Motor (TWSE:2204) so let's look a bit deeper.

What Is 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 Motor, this is the formula:

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

0.053 = NT$2.0b ÷ (NT$49b - NT$9.7b) (Based on the trailing twelve months to September 2023).

So, China Motor has an ROCE of 5.3%. On its own that's a low return, but compared to the average of 3.3% generated by the Auto industry, it's much better.

Check out our latest analysis for China Motor

In the above chart we have measured China Motor'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 Motor for free.

What Can We Tell From China Motor's ROCE Trend?

You'd find it hard not to be impressed with the ROCE trend at China Motor. We found that the returns on capital employed over the last five years have risen by 59%. That's a very favorable trend because this means that the company is earning more per dollar of capital that's being employed. In regards to capital employed, China Motor appears to been achieving more with less, since the business is using 31% less capital to run its operation. If this trend continues, the business might be getting more efficient but it's shrinking in terms of total assets.

The Key Takeaway

In a nutshell, we're pleased to see that China Motor has been able to generate higher returns from less capital. And a remarkable 598% total return over the last five years tells us that investors are expecting more good things to come in the future. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

Like most companies, China Motor does come with some risks, and we've found 2 warning signs that you should be aware of.

While China Motor 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.