There are a few key trends to look for if we want to identify the next multi-bagger. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after briefly looking over the numbers, we don't think Hydsoft TechnologyLtd (SZSE:301316) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Hydsoft TechnologyLtd, this is the formula:

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

0.07 = CN¥80m ÷ (CN¥1.4b - CN¥288m) (Based on the trailing twelve months to September 2023).

So, Hydsoft TechnologyLtd has an ROCE of 7.0%. In absolute terms, that's a low return, but it's much better than the IT industry average of 4.0%.

View our latest analysis for Hydsoft TechnologyLtd

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how Hydsoft TechnologyLtd has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

The Trend Of ROCE

When we looked at the ROCE trend at Hydsoft TechnologyLtd, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 7.0% from 21% five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, Hydsoft TechnologyLtd has done well to pay down its current liabilities to 20% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

In Conclusion...

While returns have fallen for Hydsoft TechnologyLtd in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. However, despite the promising trends, the stock has fallen 35% over the last year, so there might be an opportunity here for astute investors. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

One more thing, we've spotted 1 warning sign facing Hydsoft TechnologyLtd that you might find interesting.

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.