Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after investigating Yantai Eddie Precision Machinery (SHSE:603638), we don't think it's current trends fit the mold of a multi-bagger.

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

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. The formula for this calculation on Yantai Eddie Precision Machinery is:

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

0.081 = CN¥352m ÷ (CN¥5.9b - CN¥1.6b) (Based on the trailing twelve months to March 2024).

Therefore, Yantai Eddie Precision Machinery has an ROCE of 8.1%. On its own that's a low return, but compared to the average of 5.6% generated by the Machinery industry, it's much better.

Above you can see how the current ROCE for Yantai Eddie Precision Machinery compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for Yantai Eddie Precision Machinery .

So How Is Yantai Eddie Precision Machinery's ROCE Trending?

On the surface, the trend of ROCE at Yantai Eddie Precision Machinery doesn't inspire confidence. Over the last five years, returns on capital have decreased to 8.1% from 28% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

On a side note, Yantai Eddie Precision Machinery has done well to pay down its current liabilities to 27% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. 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 Yantai Eddie Precision Machinery's ROCE

In summary, Yantai Eddie Precision Machinery is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. And investors may be recognizing these trends since the stock has only returned a total of 21% to shareholders over the last five years. As a result, if you're hunting for a multi-bagger, we think you'd have more luck elsewhere.

If you'd like to know about the risks facing Yantai Eddie Precision Machinery, we've discovered 1 warning sign that you should be aware of.

While Yantai Eddie Precision Machinery 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com