There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, 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 investigating Jiangsu Huachen Transformer (SHSE:603097), we don't think it's current trends fit the mold of a multi-bagger.

Return On Capital Employed (ROCE): What Is It?

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. To calculate this metric for Jiangsu Huachen Transformer, this is the formula:

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

0.096 = CN¥89m ÷ (CN¥1.6b - CN¥659m) (Based on the trailing twelve months to September 2023).

Therefore, Jiangsu Huachen Transformer has an ROCE of 9.6%. In absolute terms, that's a low return, but it's much better than the Electrical industry average of 6.3%.

In the above chart we have measured Jiangsu Huachen Transformer'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 Jiangsu Huachen Transformer.

What Can We Tell From Jiangsu Huachen Transformer's ROCE Trend?

When we looked at the ROCE trend at Jiangsu Huachen Transformer, we didn't gain much confidence. To be more specific, ROCE has fallen from 22% over the last four years. 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 separate but related note, it's important to know that Jiangsu Huachen Transformer has a current liabilities to total assets ratio of 41%, which we'd consider pretty high. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

What We Can Learn From Jiangsu Huachen Transformer's ROCE

While returns have fallen for Jiangsu Huachen Transformer in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. These trends don't appear to have influenced returns though, because the total return from the stock has been mostly flat over the last year. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

Jiangsu Huachen Transformer does have some risks, we noticed 3 warning signs (and 2 which are a bit concerning) we think you should know about.

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.