To find a multi-bagger stock, what are the underlying trends we should look for in a business? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's 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. Having said that, from a first glance at Hangzhou Chuhuan Science & Technology (SZSE:001336) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

What Is 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. The formula for this calculation on Hangzhou Chuhuan Science & Technology is:

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

0.044 = CN¥35m ÷ (CN¥1.1b - CN¥333m) (Based on the trailing twelve months to September 2023).

Thus, Hangzhou Chuhuan Science & Technology has an ROCE of 4.4%. In absolute terms, that's a low return but it's around the Commercial Services industry average of 5.4%.

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're interested in investigating Hangzhou Chuhuan Science & Technology's past further, check out this free graph of past earnings, revenue and cash flow.

So How Is Hangzhou Chuhuan Science & Technology's ROCE Trending?

In terms of Hangzhou Chuhuan Science & Technology's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 40% over the last four years. Given the business is employing more capital while revenue has slipped, this is a bit concerning. 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.

On a side note, Hangzhou Chuhuan Science & Technology has done well to pay down its current liabilities to 30% 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.

What We Can Learn From Hangzhou Chuhuan Science & Technology's ROCE

From the above analysis, we find it rather worrisome that returns on capital and sales for Hangzhou Chuhuan Science & Technology have fallen, meanwhile the business is employing more capital than it was four years ago. It should come as no surprise then that the stock has fallen 22% over the last year, so it looks like investors are recognizing these changes. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

On a final note, we've found 1 warning sign for Hangzhou Chuhuan Science & Technology that we think you should be aware of.

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.

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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.