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. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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. With that in mind, we've noticed some promising trends at Nanjing Business & TourismLtd (SHSE:600250) so let's look a bit deeper.
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. To calculate this metric for Nanjing Business & TourismLtd, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.096 = CN¥98m ÷ (CN¥1.7b - CN¥691m) (Based on the trailing twelve months to September 2023).
Therefore, Nanjing Business & TourismLtd has an ROCE of 9.6%. In absolute terms, that's a low return, but it's much better than the Retail Distributors industry average of 5.5%.
Historical performance is a great place to start when researching a stock so above you can see the gauge for Nanjing Business & TourismLtd's ROCE against it's prior returns. If you'd like to look at how Nanjing Business & TourismLtd has performed in the past in other metrics, you can view this free graph of Nanjing Business & TourismLtd's past earnings, revenue and cash flow.
How Are Returns Trending?
We're delighted to see that Nanjing Business & TourismLtd is reaping rewards from its investments and is now generating some pre-tax profits. Shareholders would no doubt be pleased with this because the business was loss-making five years ago but is is now generating 9.6% on its capital. In addition to that, Nanjing Business & TourismLtd is employing 148% more capital than previously which is expected of a company that's trying to break into profitability. This can tell us that the company has plenty of reinvestment opportunities that are able to generate higher returns.
On a related note, the company's ratio of current liabilities to total assets has decreased to 40%, which basically reduces it's funding from the likes of short-term creditors or suppliers. So shareholders would be pleased that the growth in returns has mostly come from underlying business performance. However, current liabilities are still at a pretty high level, so just be aware that this can bring with it some risks.
Our Take On Nanjing Business & TourismLtd's ROCE
Overall, Nanjing Business & TourismLtd gets a big tick from us thanks in most part to the fact that it is now profitable and is reinvesting in its business. Since the total return from the stock has been almost flat over the last five years, there might be an opportunity here if the valuation looks good. With that in mind, we believe the promising trends warrant this stock for further investigation.
Nanjing Business & TourismLtd does have some risks, we noticed 3 warning signs (and 2 which are significant) we think you should know about.
While Nanjing Business & TourismLtd 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.