Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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 Guangdong Dongpeng HoldingsLtd (SZSE:003012) and its ROCE trend, we weren't exactly thrilled.
What Is Return On Capital Employed (ROCE)?
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Guangdong Dongpeng HoldingsLtd, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.00024 = CN¥1.8m ÷ (CN¥13b - CN¥5.6b) (Based on the trailing twelve months to September 2022).
So, Guangdong Dongpeng HoldingsLtd has an ROCE of 0.02%. Ultimately, that's a low return and it under-performs the Building industry average of 6.4%.
Above you can see how the current ROCE for Guangdong Dongpeng HoldingsLtd compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Guangdong Dongpeng HoldingsLtd here for free.
The Trend Of ROCE
When we looked at the ROCE trend at Guangdong Dongpeng HoldingsLtd, we didn't gain much confidence. To be more specific, ROCE has fallen from 29% over the last five years. Given the business is employing more capital while revenue has slipped, this is a bit concerning. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.
On a separate but related note, it's important to know that Guangdong Dongpeng HoldingsLtd has a current liabilities to total assets ratio of 43%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
What We Can Learn From Guangdong Dongpeng HoldingsLtd's ROCE
In summary, we're somewhat concerned by Guangdong Dongpeng HoldingsLtd's diminishing returns on increasing amounts of capital. Investors haven't taken kindly to these developments, since the stock has declined 59% from where it was three years ago. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.
One more thing to note, we've identified 1 warning sign with Guangdong Dongpeng HoldingsLtd and understanding it should be part of your investment process.
While Guangdong Dongpeng HoldingsLtd 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.