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'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Having said that, from a first glance at Hunan Heshun PetroleumLtd (SHSE:603353) 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?

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 Hunan Heshun PetroleumLtd is:

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

0.043 = CN¥84m ÷ (CN¥2.2b - CN¥299m) (Based on the trailing twelve months to September 2023).

Therefore, Hunan Heshun PetroleumLtd has an ROCE of 4.3%. In absolute terms, that's a low return but it's around the Specialty Retail industry average of 4.9%.

Check out our latest analysis for Hunan Heshun PetroleumLtd

Historical performance is a great place to start when researching a stock so above you can see the gauge for Hunan Heshun PetroleumLtd's ROCE against it's prior returns. If you'd like to look at how Hunan Heshun PetroleumLtd 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?

When we looked at the ROCE trend at Hunan Heshun PetroleumLtd, we didn't gain much confidence. Around five years ago the returns on capital were 45%, but since then they've fallen to 4.3%. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a related note, Hunan Heshun PetroleumLtd has decreased its current liabilities to 13% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line

We're a bit apprehensive about Hunan Heshun PetroleumLtd because despite more capital being deployed in the business, returns on that capital and sales have both fallen. And, the stock has remained flat over the last three years, so investors don't seem too impressed either. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

One more thing: We've identified 4 warning signs with Hunan Heshun PetroleumLtd (at least 2 which are concerning) , 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.

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.