When we're researching a company, it's sometimes hard to find the warning signs, but there are some financial metrics that can help spot trouble early. Typically, we'll see the trend of both return on capital employed (ROCE) declining and this usually coincides with a decreasing amount of capital employed. Ultimately this means that the company is earning less per dollar invested and on top of that, it's shrinking its base of capital employed. In light of that, from a first glance at Zhejiang Huace Film & TV (SZSE:300133), we've spotted some signs that it could be struggling, so let's investigate.
Return On Capital Employed (ROCE): What Is It?
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 Zhejiang Huace Film & TV, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.04 = CN¥297m ÷ (CN¥10b - CN¥2.7b) (Based on the trailing twelve months to September 2023).
Thus, Zhejiang Huace Film & TV has an ROCE of 4.0%. Even though it's in line with the industry average of 3.8%, it's still a low return by itself.
See our latest analysis for Zhejiang Huace Film & TV
In the above chart we have measured Zhejiang Huace Film & TV's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Zhejiang Huace Film & TV.
What The Trend Of ROCE Can Tell Us
In terms of Zhejiang Huace Film & TV's historical ROCE movements, the trend doesn't inspire confidence. About five years ago, returns on capital were 13%, however they're now substantially lower than that as we saw above. Meanwhile, capital employed in the business has stayed roughly the flat over the period. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Zhejiang Huace Film & TV becoming one if things continue as they have.
On a related note, Zhejiang Huace Film & TV has decreased 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.
Our Take On Zhejiang Huace Film & TV's ROCE
All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. It should come as no surprise then that the stock has fallen 31% over the last five years, so it looks like investors are recognizing these changes. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.
If you want to continue researching Zhejiang Huace Film & TV, you might be interested to know about the 1 warning sign that our analysis has discovered.
While Zhejiang Huace Film & TV 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.