If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after briefly looking over the numbers, we don't think Changqing Machinery (SHSE:603768) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What Is 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. To calculate this metric for Changqing Machinery, this is the formula:

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

0.069 = CN¥170m ÷ (CN¥4.9b - CN¥2.5b) (Based on the trailing twelve months to September 2023).

Thus, Changqing Machinery has an ROCE of 6.9%. In absolute terms, that's a low return but it's around the Auto Components industry average of 5.8%.

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Changqing Machinery's past further, check out this free graph covering Changqing Machinery's past earnings, revenue and cash flow.

What Can We Tell From Changqing Machinery's ROCE Trend?

There are better returns on capital out there than what we're seeing at Changqing Machinery. The company has employed 33% more capital in the last five years, and the returns on that capital have remained stable at 6.9%. This poor ROCE doesn't inspire confidence right now, and with the increase in capital employed, it's evident that the business isn't deploying the funds into high return investments.

Another point to note, we noticed the company has increased current liabilities over the last five years. This is intriguing because if current liabilities hadn't increased to 50% of total assets, this reported ROCE would probably be less than6.9% because total capital employed would be higher.The 6.9% ROCE could be even lower if current liabilities weren't 50% of total assets, because the the formula would show a larger base of total capital employed. So with current liabilities at such high levels, this effectively means the likes of suppliers or short-term creditors are funding a meaningful part of the business, which in some instances can bring some risks.

In Conclusion...

Long story short, while Changqing Machinery has been reinvesting its capital, the returns that it's generating haven't increased. Unsurprisingly, the stock has only gained 1.9% over the last five years, which potentially indicates that investors are accounting for this going forward. So if you're looking for a multi-bagger, the underlying trends indicate you may have better chances elsewhere.

If you want to know some of the risks facing Changqing Machinery we've found 3 warning signs (2 can't be ignored!) that you should be aware of before investing here.

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.