What trends should we look for it we want to identify stocks that can 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. So when we looked at Shanxi Lanhua Sci-Tech VentureLtd (SHSE:600123) and its trend of ROCE, we really liked what we saw.

Understanding 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. The formula for this calculation on Shanxi Lanhua Sci-Tech VentureLtd is:

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

0.17 = CN¥3.7b ÷ (CN¥32b - CN¥9.8b) (Based on the trailing twelve months to June 2023).

So, Shanxi Lanhua Sci-Tech VentureLtd has an ROCE of 17%. In absolute terms, that's a satisfactory return, but compared to the Oil and Gas industry average of 12% it's much better.

View our latest analysis for Shanxi Lanhua Sci-Tech VentureLtd

In the above chart we have measured Shanxi Lanhua Sci-Tech VentureLtd's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Shanxi Lanhua Sci-Tech VentureLtd.

What Does the ROCE Trend For Shanxi Lanhua Sci-Tech VentureLtd Tell Us?

The trends we've noticed at Shanxi Lanhua Sci-Tech VentureLtd are quite reassuring. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 17%. Basically the business is earning more per dollar of capital invested and in addition to that, 65% more capital is being employed now too. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.

On a related note, the company's ratio of current liabilities to total assets has decreased to 31%, which basically reduces it's funding from the likes of short-term creditors or suppliers. So this improvement in ROCE has come from the business' underlying economics, which is great to see.

The Key Takeaway

In summary, it's great to see that Shanxi Lanhua Sci-Tech VentureLtd can compound returns by consistently reinvesting capital at increasing rates of return, because these are some of the key ingredients of those highly sought after multi-baggers. And a remarkable 134% total return over the last five years tells us that investors are expecting more good things to come in the future. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.

If you want to continue researching Shanxi Lanhua Sci-Tech VentureLtd, you might be interested to know about the 1 warning sign that our analysis has discovered.

While Shanxi Lanhua Sci-Tech VentureLtd 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.