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. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. In light of that, when we looked at CIG ShangHai (SHSE:603083) and its ROCE trend, we weren't exactly thrilled.

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. Analysts use this formula to calculate it for CIG ShangHai:

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

0.014 = CN¥36m ÷ (CN¥5.2b - CN¥2.6b) (Based on the trailing twelve months to March 2024).

Therefore, CIG ShangHai has an ROCE of 1.4%. In absolute terms, that's a low return and it also under-performs the Communications industry average of 3.9%.

Historical performance is a great place to start when researching a stock so above you can see the gauge for CIG ShangHai's ROCE against it's prior returns. If you'd like to look at how CIG ShangHai has performed in the past in other metrics, you can view this free graph of CIG ShangHai's past earnings, revenue and cash flow.

What Can We Tell From CIG ShangHai's ROCE Trend?

In terms of CIG ShangHai's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 5.2% over the last five years. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

Another thing to note, CIG ShangHai has a high ratio of current liabilities to total assets of 51%. 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.

In Conclusion...

From the above analysis, we find it rather worrisome that returns on capital and sales for CIG ShangHai have fallen, meanwhile the business is employing more capital than it was five years ago. But investors must be expecting an improvement of sorts because over the last five yearsthe stock has delivered a respectable 70% return. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

CIG ShangHai does have some risks though, and we've spotted 2 warning signs for CIG ShangHai that you might be interested in.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com