What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. 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 Henan Jindan Lactic Acid TechnologyLtd (SZSE:300829), we don't think it's current trends fit the mold of a multi-bagger.
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 Henan Jindan Lactic Acid TechnologyLtd, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.029 = CN¥83m ÷ (CN¥3.3b - CN¥479m) (Based on the trailing twelve months to September 2023).
Therefore, Henan Jindan Lactic Acid TechnologyLtd has an ROCE of 2.9%. In absolute terms, that's a low return and it also under-performs the Chemicals industry average of 5.7%.
Historical performance is a great place to start when researching a stock so above you can see the gauge for Henan Jindan Lactic Acid TechnologyLtd's ROCE against it's prior returns. If you'd like to look at how Henan Jindan Lactic Acid TechnologyLtd has performed in the past in other metrics, you can view this free graph of Henan Jindan Lactic Acid TechnologyLtd's past earnings, revenue and cash flow.
How Are Returns Trending?
When we looked at the ROCE trend at Henan Jindan Lactic Acid TechnologyLtd, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 2.9% from 13% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.
On a side note, Henan Jindan Lactic Acid TechnologyLtd has done well to pay down its current liabilities to 14% of total assets. So we could link some of this to the decrease in ROCE. 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. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.
Our Take On Henan Jindan Lactic Acid TechnologyLtd's ROCE
Bringing it all together, while we're somewhat encouraged by Henan Jindan Lactic Acid TechnologyLtd's reinvestment in its own business, we're aware that returns are shrinking. Since the stock has declined 68% over the last three years, investors may not be too optimistic on this trend improving either. All in all, the inherent trends aren't typical of multi-baggers, so if that's what you're after, we think you might have more luck elsewhere.
If you'd like to know more about Henan Jindan Lactic Acid TechnologyLtd, we've spotted 2 warning signs, and 1 of them is potentially serious.
While Henan Jindan Lactic Acid TechnologyLtd may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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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.
