If you're looking for a multi-bagger, there's a few things to keep an eye out for. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at Chengdu Spaceon Electronics (SZSE:002935), it didn't seem to tick all of these boxes.

Understanding 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 Chengdu Spaceon Electronics is:

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

0.047 = CN¥75m ÷ (CN¥2.7b - CN¥1.1b) (Based on the trailing twelve months to September 2024).

So, Chengdu Spaceon Electronics has an ROCE of 4.7%. In absolute terms, that's a low return but it's around the Communications industry average of 4.1%.

In the above chart we have measured Chengdu Spaceon Electronics' 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 Chengdu Spaceon Electronics .

What Can We Tell From Chengdu Spaceon Electronics' ROCE Trend?

On the surface, the trend of ROCE at Chengdu Spaceon Electronics doesn't inspire confidence. To be more specific, ROCE has fallen from 8.0% over the last five years. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a side note, Chengdu Spaceon Electronics' current liabilities have increased over the last five years to 40% of total assets, effectively distorting the ROCE to some degree. Without this increase, it's likely that ROCE would be even lower than 4.7%. What this means is that in reality, a rather large portion of the business is being funded by the likes of the company's suppliers or short-term creditors, which can bring some risks of its own.

The Bottom Line

From the above analysis, we find it rather worrisome that returns on capital and sales for Chengdu Spaceon Electronics have fallen, meanwhile the business is employing more capital than it was five years ago. However the stock has delivered a 72% return to shareholders over the last five years, so investors might be expecting the trends to turn around. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

If you want to continue researching Chengdu Spaceon Electronics, you might be interested to know about the 1 warning sign that our analysis has discovered.

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.