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. 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. However, after investigating Nanjing Baose (SZSE:300402), we don't think it's current trends fit the mold of a multi-bagger.

What Is Return On Capital Employed (ROCE)?

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. To calculate this metric for Nanjing Baose, this is the formula:

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

0.041 = CN¥65m ÷ (CN¥2.6b - CN¥998m) (Based on the trailing twelve months to March 2024).

Thus, Nanjing Baose has an ROCE of 4.1%. Ultimately, that's a low return and it under-performs the Machinery industry average of 5.6%.

Historical performance is a great place to start when researching a stock so above you can see the gauge for Nanjing Baose's ROCE against it's prior returns. If you want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of Nanjing Baose.

How Are Returns Trending?

We weren't thrilled with the trend because Nanjing Baose's ROCE has reduced by 37% over the last five years, while the business employed 143% more capital. Usually this isn't ideal, but given Nanjing Baose conducted a capital raising before their most recent earnings announcement, that would've likely contributed, at least partially, to the increased capital employed figure. The funds raised likely haven't been put to work yet so it's worth watching what happens in the future with Nanjing Baose's earnings and if they change as a result from the capital raise.

On a related note, Nanjing Baose has decreased its current liabilities to 39% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

What We Can Learn From Nanjing Baose's ROCE

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Nanjing Baose. And the stock has followed suit returning a meaningful 44% to shareholders over the last five years. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

If you want to continue researching Nanjing Baose, you might be interested to know about the 2 warning signs that our analysis has discovered.

While Nanjing Baose 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.

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