If you're looking for a multi-bagger, there's a few things to keep an eye out for. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Speaking of which, we noticed some great changes in Shanxi Lanhua Sci-Tech VentureLtd's (SHSE:600123) 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. Analysts use this formula to calculate it for Shanxi Lanhua Sci-Tech VentureLtd:

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

0.15 = CN¥3.3b ÷ (CN¥32b - CN¥10b) (Based on the trailing twelve months to December 2023).

Thus, Shanxi Lanhua Sci-Tech VentureLtd has an ROCE of 15%. In absolute terms, that's a satisfactory return, but compared to the Oil and Gas industry average of 12% it's much better.

In the above chart we have measured Shanxi Lanhua Sci-Tech VentureLtd's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Shanxi Lanhua Sci-Tech VentureLtd for free.

So How Is Shanxi Lanhua Sci-Tech VentureLtd's ROCE Trending?

Investors would be pleased with what's happening at Shanxi Lanhua Sci-Tech VentureLtd. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 15%. Basically the business is earning more per dollar of capital invested and in addition to that, 62% more capital is being employed now too. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.

One more thing to note, Shanxi Lanhua Sci-Tech VentureLtd has decreased current liabilities to 31% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. So this improvement in ROCE has come from the business' underlying economics, which is great to see.

In Conclusion...

A company that is growing its returns on capital and can consistently reinvest in itself is a highly sought after trait, and that's what Shanxi Lanhua Sci-Tech VentureLtd has. Since the stock has returned a staggering 128% to shareholders over the last five years, it looks like investors are recognizing these changes. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

On a final note, we've found 2 warning signs for Shanxi Lanhua Sci-Tech VentureLtd that we think you should be aware of.

While Shanxi Lanhua Sci-Tech VentureLtd 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.