If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Speaking of which, we noticed some great changes in Yantai Zhenghai Magnetic Material's (SZSE:300224) returns on capital, so let's have a look.

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 Yantai Zhenghai Magnetic Material:

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

0.10 = CN¥539m ÷ (CN¥8.2b - CN¥3.0b) (Based on the trailing twelve months to September 2023).

Thus, Yantai Zhenghai Magnetic Material has an ROCE of 10%. On its own, that's a standard return, however it's much better than the 6.5% generated by the Electrical industry.

In the above chart we have measured Yantai Zhenghai Magnetic Material's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Yantai Zhenghai Magnetic Material .

What Can We Tell From Yantai Zhenghai Magnetic Material's ROCE Trend?

The trends we've noticed at Yantai Zhenghai Magnetic Material are quite reassuring. The data shows that returns on capital have increased substantially over the last five years to 10%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 80%. So we're very much inspired by what we're seeing at Yantai Zhenghai Magnetic Material thanks to its ability to profitably reinvest capital.

On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. Essentially the business now has suppliers or short-term creditors funding about 36% of its operations, which isn't ideal. Keep an eye out for future increases because when the ratio of current liabilities to total assets gets particularly high, this can introduce some new risks for the business.

In Conclusion...

To sum it up, Yantai Zhenghai Magnetic Material has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And with a respectable 73% awarded to those who held the stock over the last five years, you could argue that these developments are starting to get the attention they deserve. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.

One more thing: We've identified 2 warning signs with Yantai Zhenghai Magnetic Material (at least 1 which is significant) , and understanding these would certainly be useful.

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.