If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. In light of that, when we looked at Jiangsu Ruitai New Energy Materials (SZSE:301238) and its ROCE trend, we weren't exactly thrilled.

Understanding 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. To calculate this metric for Jiangsu Ruitai New Energy Materials, this is the formula:

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

0.043 = CN¥358m ÷ (CN¥11b - CN¥2.3b) (Based on the trailing twelve months to March 2024).

Thus, Jiangsu Ruitai New Energy Materials has an ROCE of 4.3%. In absolute terms, that's a low return and it also under-performs the Electrical industry average of 6.0%.

Historical performance is a great place to start when researching a stock so above you can see the gauge for Jiangsu Ruitai New Energy Materials' ROCE against it's prior returns. If you're interested in investigating Jiangsu Ruitai New Energy Materials' past further, check out this free graph covering Jiangsu Ruitai New Energy Materials' past earnings, revenue and cash flow.

What Can We Tell From Jiangsu Ruitai New Energy Materials' ROCE Trend?

In terms of Jiangsu Ruitai New Energy Materials' historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 13%, but since then they've fallen to 4.3%. And considering revenue has dropped while employing more capital, we'd be cautious. 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 related note, Jiangsu Ruitai New Energy Materials has decreased its current liabilities to 21% 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...

In summary, we're somewhat concerned by Jiangsu Ruitai New Energy Materials' diminishing returns on increasing amounts of capital. Long term shareholders who've owned the stock over the last year have experienced a 18% depreciation in their investment, so it appears the market might not like these trends either. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

One more thing: We've identified 3 warning signs with Jiangsu Ruitai New Energy Materials (at least 2 which are significant) , and understanding these would certainly be useful.

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.