What trends should we look for it we want to identify stocks that can multiply in value over the long term? 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. However, after briefly looking over the numbers, we don't think Xinyaqiang Silicon ChemistryLtd (SHSE:603155) 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)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Xinyaqiang Silicon ChemistryLtd is:

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

0.054 = CN¥128m ÷ (CN¥2.5b - CN¥188m) (Based on the trailing twelve months to September 2023).

Thus, Xinyaqiang Silicon ChemistryLtd has an ROCE of 5.4%. On its own, that's a low figure but it's around the 6.1% average generated by the Chemicals industry.

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 Xinyaqiang Silicon ChemistryLtd has performed in the past in other metrics, you can view this free graph of Xinyaqiang Silicon ChemistryLtd's past earnings, revenue and cash flow.

What Does the ROCE Trend For Xinyaqiang Silicon ChemistryLtd Tell Us?

When we looked at the ROCE trend at Xinyaqiang Silicon ChemistryLtd, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 5.4% from 43% five years ago. 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, Xinyaqiang Silicon ChemistryLtd has done well to pay down its current liabilities to 7.4% 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.

The Key Takeaway

We're a bit apprehensive about Xinyaqiang Silicon ChemistryLtd because despite more capital being deployed in the business, returns on that capital and sales have both fallen. It should come as no surprise then that the stock has fallen 24% over the last three years, so it looks like investors are recognizing these changes. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

If you'd like to know about the risks facing Xinyaqiang Silicon ChemistryLtd, we've discovered 1 warning sign that you should be aware of.

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.