If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. In light of that, when we looked at Shennan Circuit (SZSE:002916) and its ROCE trend, we weren't exactly thrilled.

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

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 Shennan Circuit is:

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

0.10 = CN¥1.8b ÷ (CN¥25b - CN¥7.6b) (Based on the trailing twelve months to September 2024).

Therefore, Shennan Circuit has an ROCE of 10%. In absolute terms, that's a satisfactory return, but compared to the Electronic industry average of 5.5% it's much better.

In the above chart we have measured Shennan Circuit's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Shennan Circuit for free.

How Are Returns Trending?

On the surface, the trend of ROCE at Shennan Circuit doesn't inspire confidence. Around five years ago the returns on capital were 23%, but since then they've fallen to 10%. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a related note, Shennan Circuit has decreased its current liabilities to 31% of total assets. So we could link some of this to the decrease in ROCE. 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 Shennan Circuit's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Shennan Circuit is reinvesting for growth and has higher sales as a result. These trends are starting to be recognized by investors since the stock has delivered a 5.9% gain to shareholders who've held over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

On a separate note, we've found 2 warning signs for Shennan Circuit you'll probably want to know about.

While Shennan Circuit isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.