If we want to find a stock that could multiply over the long term, what are the underlying trends we should look 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. However, after briefly looking over the numbers, we don't think Joy Kie (SZSE:300994) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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. Analysts use this formula to calculate it for Joy Kie:

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

0.065 = CN¥76m ÷ (CN¥1.7b - CN¥575m) (Based on the trailing twelve months to September 2023).

Thus, Joy Kie has an ROCE of 6.5%. Even though it's in line with the industry average of 6.2%, it's still a low return by itself.

View our latest analysis for Joy Kie

Above you can see how the current ROCE for Joy Kie compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Joy Kie here for free.

So How Is Joy Kie's ROCE Trending?

When we looked at the ROCE trend at Joy Kie, we didn't gain much confidence. To be more specific, ROCE has fallen from 42% over the last five years. And considering revenue has dropped while employing more capital, we'd be cautious. 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, Joy Kie has decreased its current liabilities to 33% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

In Conclusion...

In summary, we're somewhat concerned by Joy Kie's diminishing returns on increasing amounts of capital. Investors haven't taken kindly to these developments, since the stock has declined 27% from where it was year ago. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

One more thing to note, we've identified 2 warning signs with Joy Kie and understanding these should be part of your investment process.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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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.