There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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. Speaking of which, we noticed some great changes in Henglin Home FurnishingsLtd's (SHSE:603661) returns on capital, so let's have a look.

Understanding 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. The formula for this calculation on Henglin Home FurnishingsLtd is:

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

0.078 = CN¥424m ÷ (CN¥9.2b - CN¥3.8b) (Based on the trailing twelve months to September 2023).

Thus, Henglin Home FurnishingsLtd has an ROCE of 7.8%. In absolute terms, that's a low return, but it's much better than the Commercial Services industry average of 5.5%.

In the above chart we have measured Henglin Home FurnishingsLtd'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 analyst report for Henglin Home FurnishingsLtd .

What Does the ROCE Trend For Henglin Home FurnishingsLtd Tell Us?

Even though ROCE is still low in absolute terms, it's good to see it's heading in the right direction. The data shows that returns on capital have increased substantially over the last five years to 7.8%. Basically the business is earning more per dollar of capital invested and in addition to that, 135% more capital is being employed now too. So we're very much inspired by what we're seeing at Henglin Home FurnishingsLtd thanks to its ability to profitably reinvest capital.

For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. Effectively this means that suppliers or short-term creditors are now funding 41% of the business, which is more than it was five years ago. And with current liabilities at those levels, that's pretty high.

The Bottom Line

To sum it up, Henglin Home FurnishingsLtd has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And a remarkable 111% total return over the last five years tells us that investors are expecting more good things to come in the future. Therefore, we think it would be worth your time to check if these trends are going to continue.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 2 warning signs for Henglin Home FurnishingsLtd (of which 1 is a bit concerning!) that you should know about.

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.